Below we ramble a bit on lodging REITs because we know lots of folks hold their preferreds and some like the Ashford Hospitality preferreds seem to have been “repriced” to a level reserved for risky issues.
We notice that investors like to buy the various securities issued by lodging REIT Ashford Hospitality (NYSE:AHT), but have been dis-satisfied most recently. Even we have done a real short term “flip” of the common shares of AHT–but that is all we would do. Certainly with a current yield of around 10% the common shares (organized as a REIT) look attractive—for now.
I am a chicken investor and the first thing I look at prior to investing in anything is the balance sheet. NOT the income statement. In the end a company can have poor income for a very long time if they have a really conservative balance sheet. By a conservative balance sheet I mean low debt levels.
Does this mean that the balance sheet has to ‘sparkle’ for us to be an investor? No! It is about the risk/reward–by this we mean that as an investor what yield do we demand for the quality of the company behind the payments.
For instance we do hold, and have held, for a very long time the baby bonds from Sotherly Hospitality (NASDAQ:SOHO). The 7.25% baby bonds (NASDAQ:SOHOK) which were issued in 2018, mature in 2021. They become optionally callable on 2/15. The company does not have a stellar balance sheet, but the 7.25% coupon and the short time until maturity means we can likely hold this issue without laying awake at night.
So with the above being said let’s take a real quick look at 1 SINGLE ITEM from the lastest balance sheets of lodging REITs. The debt to equity ratios.
Debt to Equity ratios of some random lodging REITS
Ashford Hospitality 7.8
Pebblebrook Hotels 0.84
Sotherly Hospitality 4.38
Sunstone Hotels 0.36
Chesapeake Lodging 0.70
Hersha Hospitality 1.1
These are rates we calculated ourselves. We took the debt levels shown on the balance sheet and divided the equity into the debt.
Here you can see the latest balance sheet for Ashford Hospitality.
You can see AHT has debt of $3.9 billion against equity of $500 million–just shy of 8 times more debt than equity.
Now this level of debt looked at in a vacuum is scary–and relative to peer lodging REITs really is quite poor.
So after we see this level of debt we like to look at the cash flow statement to see where their cash is coming from. Actually we like to see how much depreciation is being charged against revenue. A shortcut cashflow is Net Income+Depreciation+Amortization=free cash. Of course it is more complex than this, but in a ‘real quick’ way it gives a hint of cash flow.
For AHT we see they had a net loss of $90 million for the 9 month period ending 9/30/2018. Add to this depreciation and amortization (which is a non cash charge taken on the income statement) which amounts to $215 million and you come up with ‘quicky cash flow’ of $125 million.
AHT had dividends for their preferreds and common shares for the 9 month period that totaled around $75 million. So we can see that the dividends are covered pretty well. Plus the company carries a huge cash horde of over $300 million.
So what is the problem with the AHT preferred issues pricing? It is simply a balance sheet that is VERY INFERIOR to its peers. If one charted the current yields of the outstanding preferred stocks on the lodging REITS we listed above you would see that they “lay out” almost perfectly–those with the lowest debt/equity trade really strong and those with the highest debt/equity trade poorly. Preferreds of Pebblebrook and Sunstone trade with current yields that are 2-3% below the AHT preferreds. The more marginal Sotherly preferreds are trading with current yields just below the AHT issues and the Hersha Hospitality preferreds trade with a current yield that is 1% below the AHT preferreds.
So are the AHT Preferreds dangerous to hold? NOT NOW–for the time being they are repriced lower to reflect the poor balance sheet. They generate plenty of cash to pay their dividends and they have a huge cash horde.
So just like we mention for baby bonds from BDC’s–when we hit the next recession (and it is coming someday, we just don’t know when) there are going to be some bloody messes. I don’t think I would want to hold shares in AHT issues when we hit a recession–cash could get very, very tight if the recession is long and deep we could see bankruptcies in some REIT sectors.