Real estate stocks sometimes get a “For Income Investors Only” rap. Real estate investment trusts (REITs) are the most popular way to invest in real estate, and they typically combine low growth with high dividends.
REITs are required to pay out 90% of their net income as dividends. While that usually means they have a big dividend, it also means they can only grow by taking on debt or selling more stock and diluting existing shareholders. But REITs aren’t the only real estate stocks.
Zillow group (ZG -4.92%) (z -5.29%), CBRE Group (CBRE -1.18%)and Howard Hughes Corp. (HHC -1.47%) aren’t REITs, but they still benefit from the same headwinds — and may benefit a little more from their focus on growth, not dividends.
Zillow has had a tough year. The stock is down about 65% over the past 12 months. The online real estate platform spent several years in a house-flipping adventure doomed from the start, trying to turn around both the business and investor confidence.
The site is still going strong. As of Q1 2022, it has 211 million average monthly unique users and more than 135 million households in its database. In addition, 4.1 million home buyers used the site to buy a home in 2021.
Zillow certainly has the popularity and working network effect. The question for investors is: how will this popularity be monetized?
Zillow’s answer is the “super app”. The company wants homebuyers to use its app for almost every part of the renting and buying process. Renters or buyers should be able to use it to pre-check a mortgage or lease, find a home, get a mortgage, plan a tour, and then make rent or loan payments.
Zillow says it makes about $4,100 per transaction started in its app as of now. That amount could go up to $17,000 or more per transaction if the company can get users to go through the app for each part of the process.
If Zillow is able to leverage its staggering number of daily app users (currently 63% of all real estate market app users) to make more money, the stock could be on the way back to where it’s at was about to tip over a year ago.
CBRE is the largest commercial real estate brokerage firm in the world. It has had incredible growth over the past year. Global sales revenue increased 59% and global leasing revenue increased 49%. It’s also been able to translate that growth into even more operating income — operating margins increased from 19.7% in Q1 2021 to 20.9% in Q1 2022.
CBRE also has a real estate investment management division, which was also a hit last year. Sales increased 34% and operating income increased 165%. Total assets under management (AUM) grew to $146.8 billion from $124.5 billion.
However, the increase in assets under management in the investment division does not necessarily increase CBRE’s costs. A growing market and more dry powder to invest meant more than doubling of operating profit.
Finally, CBRE is actively returning value to shareholders. That doesn’t mean it’s shoveling cash out the door in the form of dividends — it doesn’t even have a dividend. CBRE buys back shares. As of May 3, it had repurchased $237 million worth of stock. It repurchased $370 million in 2021, so it’s on track to surpass that number sometime soon in 2022.
That’s a lot of good news, but stock buybacks are only worthwhile for a company when the shares are actually undervalued. Of course, it also makes sense for private investors to buy.
CBRE stock is down over 25% year-to-date on fears in the commercial real estate market. This drop brings the current price-to-earnings ratio to 13.6 and the price-to-sales ratio to 0.94. Its five-year averages are 20.10 and 0.97, respectively.
3. Howard Hughes Corp.
Howard Hughes is an MPC (Master Planned Community) company. When it was spun off from its parent company a few years ago, it chose not to register as a REIT in order to focus on growth. Instead of borrowing money to develop or buy properties, it buys acres of land and sells lots to other developers to fund its own development.
In every MPC there are houses, apartment buildings, retail stores, hospitals and even fire departments and schools. Howard Hughes plans each part of the MPC in advance and uses this plan to attract developers. When the community is developed and proven, land sales become more profitable.
The company currently has eight municipalities in six states. Its parishes total 118,000 acres and include 264 lots. Each of their communities has a strong history of land and rent increases. Since Howard Hughes bought the country years ago, it can take advantage of inflation without having to make any further physical purchases. It can choose when to sell or develop the additional lots it owns. When material and labor prices go down, it can develop, and when land prices go up, it can sell.
Over the past 10 years, net operating income (NOI) has grown 17% per year to $250 million today. Management expects stabilized net income from its existing properties to be approximately $356 million. If the company is able to hit that stabilized earnings number, continue to grow with more real estate, and finally achieve multiple expansion from Wall Street, the stock would be great over the next five years.
Invest for income and growth
Real estate investing is not just about income. These companies will share the benefits of strong secular trends affecting real estate while allowing you to diversify where your portfolio grows.
However, don’t be afraid to choose real estate for REITs with a secure income. Your portfolio will thank you.