RMR Group Q3: Buy For Strong Fundamentals And Dividend Yield (NASDAQ:RMR) (2023)

Investment Thesis

RMR Group (NASDAQ:RMR) is an alternative asset management firm in the U.S. that deals in commercial real estate and corresponding businesses. It has recently reported strong quarterly results despite the macroeconomic headwinds which reflects its resiliency. I believe it can sustain this performance for a long period as it has recently acquired CARROLL which is a multifamily housing platform that can help it to enter the commercial real estate market and increase its total AUM. It also pays a high quarterly dividend which makes it an attractive stock to hold for risk-averse and retired investors seeking regular incomes.

About RMR

RMR is an alternative asset management company in the U.S. It primarily deals in commercial real estate and corresponding businesses. It offers management services to four publicly traded REITs. It also generates revenue by providing these services to three real estate operating companies and private capital vehicles. In addition, it deals in offering advisory services by primarily targeting the publicly traded mortgage real estate investment trust. The company operates 30 offices across the country and manages about $35.7 billion in assets under management as of June 2023. Management of public real estate capital contributes 83.6% to the company’s total revenues. The company offers management services to public REITS such as Diversified Healthcare Trust (DHC), Industrial Logistics Properties Trust (ILPT), Office Properties Income Trust (OPI), and Service Properties Trust (SVC). The managed private real estate capital represents 2.7% of the total revenues. It included ABP Trust and other private entities. The managed operating companies generate 13.7% of the total revenues. These operating companies included AlerisLife, Sonesta, and TravelCenters of America.

Financials

The real estate industry was negatively affected by the global Covid-19 pandemic and later it experienced a downturn as Fed raised interest rates to control inflation. This led to sluggish demand in the industry. However recently in June, the inflation declined to 3%. The second half of the year can give us a clearer picture and I think this might help the industry to rebound gradually if the interest rates decline. Despite the negative scenarios, the industrial spaces are highly absorbed compared to the pre-pandemic levels. RMR reported a low vacancy rate of 4.7%. Similarly, demand for retail properties has also remained healthy with a vacancy rate of 4.2%. General Retail and Neighborhood centers contributed about 87% to the net absorption. Hotel space absorptions have also rebounded significantly from the pre-pandemic levels. The company’s assets under management are categorized into different real estate sectors. The retail sector accounts for 15% and the industrial & hotel account for 18% each. All the upward trends in these particular sectors combined with the company’s resiliency and strong positioning have helped to deliver solid quarterly results. I believe the company is well-positioned to respond to this sustained demand as it has a broad and diversified portfolio with large REITS which helps it to generate positive cashflows.

The company reported its strong quarterly results. It reported a revenue of $280.22 million, up 32.75% compared to $211.08 million in Q3FY22. The growth was mainly fueled due to the addition of termination and incentive management fees of $45.47 million. The company’s revenue growth outperformed the market expectations as it has managed to surpass the market by $52.71 million or 23.17%. RMR reported assets under management (AUM) of $35.7 Billion. Net income saw an astonishing growth of 225.50% YoY from $7.57 million in the previous year’s same period to $24.64 million in Q3FY23. Net income margin stood at 59.7%. The increased net income resulted in a diluted EPS of $1.48. RMR has exceeded market's EPS expectation by $1.02 or 221.73%. RMR reported $295.4 million in liquidity and adjusted EBITDA stood at $24.6 million.

I believe it can sustain this performance in the future as well and we can expect steady growth despite the current macroeconomic pressures as the company is increasing its reach by entering new markets and has recently made an opportunistic acquisition to address every part of multifamily investments which I will be discussing in the next part. The company’s resiliency and strong investor base have helped it to overcome the negative impacts of the volatility in the real estate markets. As per my analysis, once the interest rates decline to the Fed’s target, the company can get a positive momentum as demand in the other sectors might be stabilized which can benefit the company to increase its revenues from management fees.

According to seeking alpha, the company’s revenue for FY2023 might be $973.2 million. After considering, all market upward trends and the opportunistic acquisition of the CARROL Multifamily Platform, I think seeking alpha’s estimates are accurate. The company’s 5-year average net income margin is 10%. I think RMR can sustain this net income margin for FY2023 as demand for the rental property is strong which is reflected in the company’s low vacancy rate. A net income margin of 10% and revenue of $973.2 million gives a net income of $95.4 million and EPS of $3.04.

Acquisition of CARROL Multifamily Platform

The company has recently signed a definitive agreement for acquiring CARROL, which is a vertically integrated multifamily platform. CARROL mainly deals in offering asset and property management services in the Sunbelt markets of the USA. It serves 81 multifamily properties consisting of over 28000 units. In the past, it has managed to deliver average gross realized returns of about 30% to its institutional investors. The deal transaction was completed for $80 million. This acquisition has enabled the company to enter the commercial real estate sector with operational expertise and increased digital marketing capabilities of CARROLL. It can expand RMR’s business and provide it with a recurring revenue stream as the management anticipates that recurring fee business on CARROLL platform will generate between $11 million & $13 million in adjusted EBITDA and $0.22 to $0.26 in distributable EPS in the first full year following closing. I believe this can be a good opportunity for the company to capture additional market share and increase its profit margins by increasing its customer base as CARROLL is one of the leading players in the Sunbelt markets and will double RMR’s private capital AUM to $15 billion. This will also help the total AUM to grow up to $44 billion. I think this can increase the company’s cashflows significantly as total AUM is increasing at a high level and synergizes perfectly with all parts of the RMR’s multifamily investments.

Dividend Yield

RMR has a history of consistent dividend payouts which indicates its healthy positioning. It is paying dividends to its investors for last 6 years consecutively. The company’s free cashflow has declined in last 5 years still it has maintained strong dividend payments.

In FY2022, RMR paid cash dividend of $0.38 in the first quarter and $0.40 in each of upcoming quarters. This dividend payment totaled $1.58 per share annually which is equivalent to dividend yield of 6.72% compared to current share price. The company’s 5-year average payout ratio is 55.79%. In FY2023, it paid dividend of $0.40 in first three quarters and given RMR’s strong cash positions and growth prospects, I believe the company can maintain 5-year average dividend payout ratio. Therefore, I estimate RMR might pay quarterly dividend of $0.49 in last quarter which can make annual dividend $1.69 (maintaining dividend payout ratio of 55.79%) which is equivalent to forward dividend yield of 7.6% compared to current share price $22.23. The current forward dividend yield of RMR is 55.1% higher than the sector median dividend yield of 4.90%. The company’s 4-year average dividend yield is 10.96% which is 151.78% higher compared to the sector median of 4.35%. This appealing dividend yield makes the firm an attractive stock to hold in the portfolio. It can also be a good investment for risk-averse and retired investors who are looking for regular income.

What is the Main Risk Faced by RMR?

Dependency on Limited Clients:

The company primarily earns revenues by providing management services and through reimbursable fees. Its portfolio consists of a limited number of clients and each client contributes a large portion to its revenues. If any of the company’s managed equity REITS incurs losses or reduces its business or assets, it can negatively impact the company’s performance by contracting its profit margins and revenue levels.

Rise in Interest Rates:

The most recent rises in interest rates might considerably lower RMR's earnings or hinder its expansion. Since the start of calendar FY2022, the Federal Reserve has hiked rates of interest six times in response to strong and ongoing rises in inflation over the previous year. Future interest rate hikes' timing, frequency, and magnitude are all unclear. Market interest rate increases could have a significant, unfavorable impact on RMR. The distribution rate in relation to such shares relative to current market interest rates is one of the elements that investors frequently think about crucial when determining whether to purchase or sell the equity shares of its Managed REITs. Investors may anticipate a higher distribution rate before purchasing Managed REITs if market interest rates increase, or they may sell their Managed REIT common shares and look for alternative assets with a higher distribution rate. The market value of the Managed Equity REITs' common shares could decrease as a result of sales of those shares, which would lower their market capitalizations and overall returns to shareholders and, in turn, could materially lower the fees they pay the company to manage their business.

Valuation

The company’s strong financial results indicate its healthy positioning and I believe it can sustain this growth in the coming times as absorption rates in a few real sectors in which the company manages its AUM have been positive despite the headwinds. In addition, the company has recently acquired a multifamily housing platform which can help it enter new commercial real estate markets and capture additional market share by acquiring new clients. Further, this can help it increase its profit margins by expanding its AUM. After considering all the above factors, I am estimating EPS of $3.04 for FY2023 which gives the forward P/E ratio of 7.31x. After comparing the forward P/E ratio of 7.31x with the sector median of 12.33x, I think the company is undervalued as it shows that RMR is trading 40.7% below the median P/E ratio of all companies in the sector. I think the company’s key competitors are RE/MAX Holdings (RMAX), Tejon Ranch (TRC), CBRE Group (CBRE) and Jones Lang LaSalle (JLL) as all of them operates in same industry and provide similar services. Currently, RMX’s P/E ratio is 12.05x, TRC’s P/E ratio is 31.59x, CBRE’s P/E ratio is 18.86x and JLL’s P/E ratio is 15.84x, which gives the industry average P/E ratio of 17.13x.The company’s forward P/E ratio of 7.31x is 134.3% lower compared to industry average P/E ratio of 17.13x which indicates it is significantly undervalued compared to industry peers.

I believe the company might grow in the coming quarters as a result of positive industry trends and its recent acquisition which can help it to trade at sector median P/E ratio. I estimate the company might trade at a P/E ratio of 12.33x in FY2023, giving the target price of $37.48, which is a 68.6% upside compared to the current share price of $22.23.

Conclusion

RMR has been able to manage the economic headwinds well which is reflected in its strong quarterly results. It experienced significant growth in the third quarter due to a strong portfolio of large REITs and its resilience capabilities. It is highly dependent on limited number of clients which can contract its profit margins. Though the real estate industry is experiencing downturn due to interest rate hikes, demand for some property types has remained healthy which can benefit RMR as its AUM is categorized mostly under these sectors with a total share of 48%. In addition, it has recently acquired multifamily housing platform CARROLL operating in Sunbelt markets which can highly benefit it to enter commercial real estate market and acquire strong customer base as CARROLL is a leading platform, particularly in Sunbelt markets. These potential growth factors might help RMR to sustain its high dividend payout by increasing its cashflows which makes it attractive stock to hold in the portfolio. The stock is currently undervalued and we can expect a healthy 68.6% growth from the current price levels. Considering all these factors, I assign a buy rating to RMR.

I am a "Techno-Funda" Analyst with more than 5 years of experience in equity research. With my investment strategies, I have successfully managed to earn alpha returns in equity market and I want to share my investment recommendations with all investors.