A check-in with UMH
UMH has changed quite a bit since we began investing in it, so let us take a renewed look at the thesis. We see 4 key areas to focus on.
- Debt levels
- Property operations
- Securities portfolio
The obvious knock against UMH is that its FFO/share growth has been disappointing relative to peers. This has likely kept many from investing in UMH and has caused it to be seen as weaker than SUI or ELS.
Less known is why the FFO/share has been weak. FFO and leverage are directly correlated. Ceteris paribus, the higher a company’s leverage, the higher its FFO/share will be. This is true for 2 reasons:
- Debt cost of capital is much cheaper than equity cost of capital
- High debt raises risk which means equity investors will demand a higher expected return which manifests in a lower share price relative to FFO.
When a REIT levers up, its FFO/share should rise rapidly and when a REIT reduces leverage its FFO/share should fall.
UMH has rapidly reduced leverage over the past few years. This is singlehandedly why its FFO/share growth has been weak. In 2015, net debt to EV was 35% and it sits today at 22.9%.
Normalized FFO/share has grown modestly over the period from $0.55 in 2015 to what looks to be about $0.70 in 2019. This growth, despite the deleveraging was made possible by high organic growth rates with same store NOI consistently in the high single digits. Both the rental and sales programs are performing well. The reasonably strong economy and low unemployment have fueled demand for UMH’s workforce housing.
The stock price has been held back by volatility caused by UMH’s stock portfolio. A recent rule change forces UMH to report mark to market adjustments in its quarterly earnings which is making their bottom line volatile despite the stability in the underlying manufactured housing business. I find the new accounting rules to be unfortunate and misleading, but eventually the market will catch on that this is the source of volatility and begin to adjust accordingly. Overall, the securities portfolio is fairly neutral to UMH’s value. It will provide modest gains in the long run and mostly serves as a way to store cash with some return before it is deployed into properties.
We see strong return potential for UMH going forward. The reducing of leverage is complete which will unlock faster gains in FFO/share.