Steady REIT Performer
Cruises Past the Pack
NEW YORK -- Bigger isn't necessarily better.
Just ask Parkway Properties Inc., an office real-estate investment trust that has been quietly outperforming its peers with double-digit returns for years.
Indeed, a Citigroup Inc. study showed the once-tiny REIT delivered compound annual returns of 23.5% between 1994 and 2002 -- making it the top performer among the 104 REITs and real-estate operating companies the firm tracks.
Even since converting to a REIT in 1997, it has outperformed equity REITs in general. Between 1997 and 2002, it has posted compound annual returns of 10.5%, according to Abby McCarthy, director of industry information and statistics at the National Association of Real Estate Investment Trusts. This outpaces equity REITs in general, whose returns averaged 5.8%, and office REITs, whose returns averaged 6.8% during this period, Ms. McCarthy said.
So far in 2003, the company had generated returns of about 15% as of May 23, while equity REITs were up 11.1% and office REITs 12.1%.
Despite the gains and the fact that many investors believe Parkway's stock is now fully priced, many fund managers expect the stock to continue to post double-digit returns for at least the next two years.
Several investors said it was Parkway's strong earnings track record, its highly regarded management, its attractive -- but safe -- dividend yield, and its ability to execute on growth plans that drew them to the stock.
"It's a very well-run company that's good at retaining tenants and has good solid property management," said Bill Morrill, managing director of LaSalle Investment Management Securities Ltd., which holds shares in Parkway.
In the first quarter, the company's office occupancy was 92.1%, which is considerably better than the 82% industry average right now, said Parkway Chief Executive Steven Rogers.
"Parkway [management] focuses on tenant retention because it's cheaper to keep a tenant than to find a new one," said Citigroup Smith Barney analyst Gary Boston. Signing up a new tenant in today's weak economy often involves concessions and paying extra for tenant improvements.
Mr. Rogers said his company finds unique ways to keep tenants happy such as hosting lunches for tenants, planting flowers and offering umbrellas on rainy days as part of its "Flags, Flowers, Fixtures and Fellowships" program. It also visits and surveys each of its 1,084 tenants each year to find way to improve their stay, he said.
The company has a history of growing its funds from operations and net asset value through acquisitions, said Citigroup's Mr. Boston.
Its total market cap has climbed from $45 million in 1993 to $300 million in 1996 to $1 billion today, Mr. Rogers said. It's undergone a transformation over the years from a mortgage REIT in 1971 to a diversified real-estate operating company in the early 1990s, to a pure-play office REIT in 1997.
"The smaller they are, the faster they [can] grow," said Mr. Boston.
A Knack for Exiting Markets at the Right Time
Parkway has been savvy at selecting markets and exiting them at the right time. Raymond James analyst Bill Crow noted that Parkway managed to pocket healthy profits when it sold off its holdings in Dallas and Northern Virginia just before the two markets started to collapse.
Mr. Rogers, who has been at the helm since 1983, said he's developed a keen eye for signs of overbuilding, which is a precursor to trouble. While driving through Dallas in January 1998, he said "I saw dozens and dozens of cranes" and buildings being constructed without significant pre-leasing. When he returned home, he recommended the board exit the Dallas market, which it did in mid-1998 when vacancies in that city were running at about 11%. "Today vacancies are 21%," he said.
Mr. Rogers' crystal ball was equally accurate when assessing the Northern Virginia market, where he noticed 60% of the leasing was going toward technology and telecom companies. "When you see a percentage so great, it reminded me of Houston and the oil and gas industry in the early '80s, and we all know what happened there." As a result, he recommended the company pull out of Northern Virginia in 2000. "Vacancies were 5% then. Today they're 18%," he said.
Parkway operates primarily in Sunbelt markets, such as Houston; Jackson, Miss.; Atlanta; Phoenix and Florida. The exception is Chicago. Many of these markets have not been hit as hard by falling rents and occupancies as major cities, such as New York, Boston and San Francisco, where layoffs and other troubles in the telecom, technology and financial-services sectors have taken a toll.
"There aren't too many big financial companies in Jackson, Miss.," quipped Mr. Morrill.
Parkway did have space leased to troubled WorldCom Inc., but so far the company has continued to receive rent from the telecom giant.
Parkway's markets "have been less volatile than coastal REITs that focus on the West Coast and Northeast," said Mr. Crow. Since rents didn't run up in the Sunbelt markets the way they did in New York and Boston in the late 1990s, they didn't have as far to fall when the economy soured, he said.
"The Sunbelt markets have been more stable," concurred Mr. Boston. Likewise though, when the economy rebounds, Parkway likely won't enjoy the sharp upside that some of the companies with properties in harder-hit cities will see, he said.
Still, many economists don't anticipate a significant economic recovery until at least the second half of 2004. Since office real estate tends to lag the economy, its recovery likely won't take hold until early-to-mid 2005.
And many investors believe Parkway will continue to turn out total annual returns of at least 10% until then.
Mr. Boston pegs the company's net asset value, or NAV, around $35.77 while Mr. Crow estimates the number at $36.49 and Mr. Morrill $38. Regardless of which number is used, Parkway's shares, which recently changed hands at $39.91, are trading at a premium to its NAV. The strong valuation recently prompted Mr. Boston to downgrade the stock to In-Line from Outperform.
Still, some investors aren't bothered. Mr. Morrill considers the stock to be "fairly valued," as he believes it should be trading at a 5% to 10% premium to NAV anyway. "If it was 30% to 40% over, then we'd cut back," he said.
Mr. Morrill expects Parkway to continue to deliver double-digit returns for at least the next three years.
"Parkway has a proven track record of meeting [growth] objectives" and generating good cash flow to cover its dividend [currently at 6.6%,] said Patrice Derrington, managing director and portfolio manager at Victory Real Estate Fund, which holds shares in Parkway. "It's very attractive in this environment."
While she isn't expecting eye-popping gains going forward, she said they will nevertheless be "stable" with at least 10% returns over the next 12 months.
Ms. Derrington predicts Parkway will continue to outperform many of its peers even as the economy recovers. She sees small business rebounding faster than larger companies since big business is driven by global conditions. And since 60% of Parkway's rent revenue comes from smaller-company tenants who lease 6,000 feet or less of space, demand and leasing should snap back faster, she said. "[Parkway] is well-poised to grow in an upturn."
"Parkway has an established track record of delivering positive returns. And fewer shareholders are willing to sell shares," Mr. Crow said. "It's a risk-averse way to play the office sector at the current time."
Messrs. Crow and Boston do not hold shares in Parkway, nor do their firms have an investment-banking relationship with the company.
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