Why Tanger Factory Outlet Centers (SKT) Is a Bargain for Income Investors
With global interest rates still near record lows (the German ten-year yield is at 0.8%, while the U.S. ten year yield is at 2.3%, income investors face a difficult time finding meaningful yields in bond products or high-dividend stocks without taking substantial risks. Should inflation unexpectedly rise later this year, bond prices would also underperform.
Based on my macroeconomic analysis, there remains pockets of value in Real Estate Investment Trusts (REIT). In particular, income investors should consider Tanger Factory Outlet Centers (SKT) due to: 1) the firm’s high dividend yields, 2) its ability to increase cash flows when inflation is rising, and 3) robust demand growth for quality outlet mall space. In general, I also like REITs because their legal structure allows management to deduct dividends from the firm’s taxable income, eliminating the issue of double taxation.
SKT has a market value of $3.1 billion, and an annual dividend yield of 3.5%. Over the last 12 months, SKT is down by 3%. I find SKT to be a compelling income play (even in an inflationary scenario) for three reasons.
- 1. Strong growth opportunities for established incumbents
Unlike the larger category of U.S. retail malls, the outlet mall REIT industry is still a growing industry. In fact, outlet malls are the fastest growing segment in retail; I believe retailers’ demand for outlet mall space will continue to grow because: a) quality outlet mall space in the U.S. total only 70 million square feet, which is less than 1% of the total retail space in major U.S. markets, b) the millennials (i.e. those between 15 and 35 years old today) are both more price and brand conscious than previous generations; outlet malls thus hold a strong appeal for them since a typical outlet mall contains a high concentration of quality brands offering compelling prices, and c) increasingly, U.S. outlet malls are viewed as a vacation destination for foreign tourists.
SKT owns and operates 36 outlet centers totaling 11.3 million square feet of gross leasable area, and has partial ownership interests in 8 outlet centers, including 4 outlet centers in Canada. As a leading incumbent in the outlet mall REIT industry, I believe SKT is protected from new competition, as it takes significant support from established brands to build and operate an outlet center successfully. Collectively, SKT’s outlet centers house 380 different store brands. SKT’s top 10 tenants are: Gap, Ascena Retail, PVH, V.F. Corporation, Nike, Ralph Lauren, Ann Taylor, G-III Apparel, Adidas, and Carter’s. SKT has carefully developed working relationships with these tenants over the last two decades which a brand-new outlet mall entrant cannot replicate.
- 2. Outlets are one of the best outreach/distribution channels for retail brands
The direct-to-consumer channel is the fastest-growing channel for U.S. retailers. This means brands are focusing on direct outreach to consumers; having a store in an outlet store allows brands to directly reach and sell to price-conscious consumers as well as international shoppers. For a retail brand, I also believe an outlet mall distribution strategy is superior to that of an e-commerce strategy, for the following reasons: a) according to the International Council of Shopping Centers, 78% of consumers prefer to shop in-store, and 73% want to try on or touch the merchandise before they make a purchase, b) according to the U.S. Census Bureau, in-store retail sales grew by $122 billion in 2014, vs. e-commerce sales growth of $38 billion, i.e. on an absolute basis, in-store retail sales growth is still outpacing that of e-commerce, and c) the outlet mall is the only distribution channel where a consumer can conveniently shop at 80-100 different brands in an afternoon.
- 3. A conservative management team with a strong track record
Since its IPO in 1993, SKT has increased its dividend each year and has paid a cash dividend every quarter. Its outlet centers have always enjoyed occupancy of 95% or higher; today, SKY’s occupancy sits at 97%. In the first quarter of 2015, its same-center net operating income (NOI) growth was 4%, handily beating U.S. inflation. During the last recession in 2009, SKT still managed to achieve same-center NOI growth of 1.4%. SKT’s balance sheet is also conservatively managed. The REIT has an interest coverage ratio of 4.4, which sits at the average of all U.S. equity REITs. Moreover, SKT has no significant debt maturity until October 2017, when its lines of credit mature and which management can extend for one year at its option.
SKT’s seasoned operating experience, its strong and long relationships with branded retailers, and favorable industry dynamics should propel the REIT’s earnings growth for years to come. I expect SKT to return by more than 10% annually over the next 2-3 years.
Disclosure: Neither I nor does my firm, CB Capital Partners hold any shares in SKT.
Henry To, CFA, CAIA, FRM is Partner & Chief Investment Officer at CB Capital Partners. Established in 2001, CB Capital Partners is a global financial advisory and investment firm headquartered in Newport Beach, California, with an office in Shanghai, China and an affiliate office in Mumbai, India. Visit http://www.cbcapital.com and http://www.cbcapitalresearch.com for more information.
