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About EPR
In previously devising and executing my inflationary environment playbook, some of the top themes and sectors that came to mind were energy, commodities, staples, and real estate investment trusts, or REITs.
While I’ve covered a few REITS in the past, most of which have been multifamily apartment community operators, I’ve been trying to get more comfortable with thinking outside of the box a bit more, leading me to look into perhaps less traditional REITs, and as a result, EPR caught my attention.
Before I start getting more into the company itself, I’d like to briefly explain the rationale behind REITs and my general consideration of them potentially being part of my inflationary playbook. I usually start with simple ideas, and initially thought about what people in the developed world would not be able to live without, even during times of economic stress, leading me to think about utilities such as water, natural gas, oil (even if they aren’t perhaps used as much, they are nevertheless essential), subsequently thinking about housing, and while I am not a bull on the housing market now nor over the next 18-24 months (primarily due to elevated mortgage rates, oversupply in key growth territories, my forecast of the federal funds rate coming up in this era due to persistent inflationary pressures and a growth-economy-oriented President Trump about to begin his second term, the higher material costs that are likely to continue as a result of persistent inflationary pressures, among others), I am not as dour on the prospects of REITs specifically (warning, I didn’t say that everything was/is perfect), as they offer much more flexibility than home ownership, which is particularly attractive in this current and emerging environment, not to mention that in a more longer-term sense, the simple fact of the matter is that many within the younger generations aren’t all that into home ownership, as say, baby boomers were and are.
I’ll also say more plainly that given their essential nature, they are, like utilities, conducive to maintaining consistent revenues and cash flows through rougher economic seasons, hence my attraction to this nook of the real estate sector.
Deviating from my REIT thoughts for just a moment, for those that are interested in the commodity aspect, upon looking at historical data during other inflationary periods (the 1970s as an example), when inflation comes up or is elevated, commodity prices tend to be elevated as well (for a slew of reasons, a couple being their essential nature in our everyday lives but also the heightened input costs incurred by producers, shifted onto consumers), thus, beefing up commodity producers’ margins, plus some commodities gaining from their respective safe-haven statuses, gold as a prime example.
Just an additional note for the nerds, myself vehemently included.
Back to today’s main topic of discussion, based in Kansas City, Missouri, EPR Properties isn’t your average multifamily REIT in the sense that instead of specializing in living spaces, its specialty is in experiential venues, such as movie theatres, eat & play venues (Topgolf is a major client of EPR, for example), gaming and resort settings, fitness centers, and even educational institutions, currently having around $7 billion in total investments, 352 locations and north of 200 tenants, and upon looking at its property map, covering much of the United States, especially higher-growth regions such as the East and West Coasts and the Sunbelt.
EPR generates revenues mainly through rental income from its tenants, strategically utilizing long-term triple-net leases with inflation-adjusted rent escalators, one of the many benefits of this style including shifting operational costs onto tenants, inherently working wonders for this REIT’s margins. The company also produces revenues through interest payments gained through the financing options it offers its tenants.
I like these as operational hedges in the shorter-term (think next six-to-twelve months), however, I am a bit skeptical with respect to experiential REITs as a whole, and while I don’t mean to make myself out to be poisoned, here’s my utmost objective thought process: if Fed policy plays out like I think it will and the Fed begins raising rates in or around mid-2025, this means EPR’s borrowing costs are going to become higher, the values of its properties are likely to be under pressure, and its tenants are going to be financially squeezed, maybe even having a difficult time in paying their rent. Consumers will likely pare back on ultra-consumer discretionary spending, such as playing rounds at Topgolf or going to the movies, thus further hurting said venues and their abilities to pay rent to EPR. Still, I’ll give credit when credit is due and mention how the company is in the process of actively divesting some of its movie theater properties, as I had (and still do) initial concerns surrounding the longer-term efficacy of physical theatres due to the continual rise of streaming, and EPR is apparently adjusting to this environment. An example of management taking tangible measures includes its agreement with one of its larger movie theater tenants, Regal Cinemas, the restructuring stipulating that EPR will take back sixteen theatres that were previously operated by Regal, eleven of these being put on the market for sale, aiding this entertainment REIT in shielding itself from a continued inflationary, higher-rate environment, but even more, seemingly operating with the future in mind given the continued growth of streaming, while freeing up some dry powder in the shorter-term.
Being that we’ve already established that I am typically a fan of REITs during times such as these, littered with inflation and economic uncertainty as it relates to my projection(s) surrounding the federal funds rate over the next 18-24 months, coming into this article I’ve maintained much more inflation-resistant confidence in multifamily REITs due to their essential nature, as people don’t “need” to go to Topgolf, Main Event, or any other sort of eat & play or resort venues, but maybe EPR is setting itself up to be much more resistant to inflationary pressures than I had previously thought. Nevertheless, when thinking about where the United States is moving in terms of leisure, we’ve hosted an experience-based economy for quite some time now, and it is my estimation that this isn’t likely to let up anytime soon, especially given the likes, dislikes, and frankly how the younger generations vote with their dollars, which has proven that they are experience seekers, and are much more price inelastic in this realm than perhaps older generations, with different, and in my opinion better, more grounded priorities.
Nevertheless, I do maintain some reservations regarding the performance of entertainment venue chains (or its tenants) like Main Event and Topgolf during inflationary periods, and I wouldn’t be as worried about this being that EPR is more of a landlord than an operator, however, being that its tenants engage in highly consumer discretionary operations and services and that customer’s wallets tightening often directly translates into softer demand for their services, it becomes increasingly difficult for operators to pay their rent, and if they can’t pay their rent, EPR’s revenues are impacted, not to mention the possibilities of specific, less well capitalized venues going out of business as a result of consumer demand easing as a result of inflation. Even though I initially mark REITs as part of general inflation playbook, I can’t lie and tell you that other REIT categories haven’t crossed my mind in terms of those that would likely have a greater likelihood of not merely remaining afloat and serving as a portfolio hedge but might actually convert into alpha in such an environment.
Again, however, in the spirit of giving credit when it is due, I like that this REIT has diversified its geographies and property use cases over time, a prime example being its education/schools segment, acting as a hedge in the sense that, compared to entertainment settings, parents are more often than not prioritizing their budgets on their children’s education than playing Topgolf, and it certainly helps that many of its education properties are in more affluent regions within their territories in the United States.
I digress, as it hardly matters what I think (better yet, the market doesn’t care), but it sure does matter where, objectively, the world is heading and where spenders are spending, but even more importantly, where they will be spending over the longer-term during this upcoming cycle of uncertainty (again, my opinion).
Hopefully you’ve gained a clearer picture of EPR Properties, my sincerest apologies for my rate ramblings (psych, I’m not sorry at all) and now, let’s try and find out through the lens of its core finances what this REIT is made of and whether or not it might be a worthy consideration both now and later.
EPR’s stock financials
With a market capitalization of $3.38 billion, a share price of $44.64, a price-to-earnings (P/E) ratio of 19.27, and issuing an annual dividend of $3.42, the preliminary facts of the case being that EPR’s stock (NYSE: EPR) appears to be trading at just about fair value (given its current price-to-earnings ratio) and that the company issues a tidy dividend (per REIT regulations), offering investors a steady source of income, one of the other aspects that make REITs attractive investment prospects during eras of higher interest rates and/or higher rates of inflation.
While, from my vantage point, this initial block of information doesn’t offer or divulge anything all too initially interesting or tell me about this company’s financial outlook, looking at its balance sheet will help, myself finding that its executive team is in charge of handling and making the most out of $5.7 billion in terms of total assets and $3.2 billion in terms of total liabilities, which, given this company’s line of work, doesn’t appear to be a terrible overall structure, however, when digging in a little deeper, there are some potential points of concern that I’d like to briefly point out. For starters, the company’s debt-to-equity ratio is fairly high, standing at 118.4%, meaning that the company is using a significant amount of debt in order to finance its operations, and although this is hardly unheard of in the real estate world, it is on the higher end even when acknowledging this reality. I’d like to also mention that the company’s debt-to-equity ratio has increased over the last five years, from 102% to 118.4%, directly indicating that EPR has increased its usage of leverage in recent history.
Additionally, it maintains a relatively low interest coverage of 2.8x, specifically meaning that the company’s earnings before interest and taxes (EBIT) are only 2.8 times greater than its interest expenses, and it would obviously be better if this company’s interest coverage were higher, especially given the debt-intensive nature of the real estate sector. In this respect, I was just looking for some more liquidity.
It isn’t all bad news, however, with one bright spot being the company’s extensive base of rather valuable real estate assets, such as the land below the properties it rents out alone, not to mention its stable short-term liquidity posture, as displayed by the firm maintaining $159.1 million in terms of short-term assets and $123.1 million in terms of short-term liabilities, and while not as large of a spread as I would’ve preferred, a somewhat sizable spread nonetheless.
Onto the company’s income statement, EPR’s annual revenues from and during 2019 and 2023 have showcased stability, nothing more, nothing less, which is something that investors are drawn towards during times of economic volatility or uncertainty, hence one of the reasons I believe one of my favorite investors, founder of Discovery Capital Management, Robert Citrone, recently established a stake in this firm in his most recent 13F filing. Specifically, on average, each year the company’s annual revenues have panned out to around $600 million, meeting a recent relative low of $415 million in 2020, caused by what else but COVID-19, and a relative high of $706 million, as reported at year-end 2023. In the context of the COVID timeframe, I am pleased to find that the company’s revenues didn’t actually fall further, quite honestly, and in the realm of reporting stronger than average revenues in 2023, this was cited as being a primary byproduct of elevated performance within its theater portfolio. Namely, while for its theater segment it implements the previously mentioned triple-net lease structure, in certain cases it also has a percentage rent component, EPR receiving a certain percentage of the theater’s revenues if it reaches a certain threshold. Box office growth during 2022 and 2023 led to higher revenues for today’s REIT.
Of course, if inflationary pressures don’t subside in the shorter-term along with the longer-term threat(s) of streaming, I could envision a scenario in which this company doesn’t earn as much through this percentage rent stream.
With respect to the company’s cash flow statement, EPR’s total cash from operations throughout the same 2019-2023 time frame were quite consistent, coming out to around $400 million each year, except in 2020, to no one’s surprise, dropping like a rock to $65 million, but recovering to $307 million in 2021, reaching normalcy a state of normalcy at $442 million in 2022.
I am grateful for the overall stability in the company’s ability to generate cash through its operations.
EPR’s stock fundamentals
According to Charles Schwab’s platform, EPR’s net profit margin is listed at 28.87%, presenting a sort of rare scenario in which while this net profit margin alone appears strong, when comparing it to some of its direct experiential REIT competitors, such as Gaming and Leisure Properties (NASDAQ: GLPI) and VICI Properties (NYSE: VICI), with the competition’s respective net profit margins shown as 53.03% and 75.08%, both are far more fortified than that of EPR.
In doing some soul searching and trying to gauge why there’s such a large delta, it seems like there are a few different forces at play here, including Gaming and Leisure Properties and VICI being much larger operators, and by virtue having more of its revenues derived from safer, more profitable triple-net leases, plus, in learning more about both of these competitors, I found that instead of diversifying their types of properties and offerings, they went a seemingly better route and diversified territoriality but focused tremendously on the types of venues they operate; gaming and hospitality.
Focus certainly aids these companies in profitability, but it also helps that resort and casino settings tend to be high-margin venues, not to mention that it also hardly hurts that the non-gaming and hospitality venues it leases out are higher-end spaces, adding further margin support.
Should you buy EPR stock?
Like I said, I hardly have issues with quality REITs during times of financial uncertainty or inflation (ceteris paribus), and although EPR Properties isn’t a direct exception, I think there are other and frankly better options out there in the REIT category.
For instance, if I were determined to ponder putting some capital to work in this area, I would be far more intent on finding an undervalued residential REIT operator, such as a better valued, more focused national apartment developer, one of the main reasons being that when liquidity is dejected from the market through a higher federal funds rate, and inflation pecks away at the budgets of consumers and families, I would much rather be invested in a firm that operates living spaces as opposed to recreational facilities, being that, again, people don’t have to go to Topgolf, see a movie in-person, or engage in copious discretionary spending, but they do have to live somewhere.
It’s nothing against EPR, per se, but more of a matter of preference, I suppose.
On a standalone basis, EPR’s shares (NYSE: EPR) appear to be trading at just about fair value, its balance sheet is, all things considered, in fine condition, but I’ll certainly keep my finger on the pulse of the potential sore spots I pointed out earlier, its annual revenues have performed as expected, its annualized total cash from operations have been net-stable, and its net profit margin needs some work on a comparable basis, but given the research I’ve done and my explanations surrounding its competitor’s operations, I can indeed report that it makes sense.
In considering the macroeconomic picture (i.e., the federal funds rate, inflation, among other things on the side, such as GDP, unemployment, etc..), I think it makes the most sense to lend the company’s stock a “hold” rating.
DISCLAIMER: This analysis of the aforementioned stock security is in no way to be construed, understood, or seen as formal, professional, or any other form of investment advice. We are simply expressing our opinions regarding a publicly traded entity.
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