They provide exposure to real estate, without the hassle of direct ownership. REITs are structured as trusts for tax reasons, and as a result, they do not pay federal income taxes at the entity level. There are five factors I analyze at a REIT, before putting my money to work in investment in real estate is attractive to investors because sector.
Earnings per share are not an adequate way to look at REITs. FFO is defined as net income available to common stockholders, plus depreciation and amortization of real estate assets, reduced by gains on sales of investment properties and extraordinary items. I like to look at the trends in Funds from Operations per share over the past five or ten years, in order to see if there is any fuel for dividend growth. REITs are pass-through entities, which means they return almost all of their free cashflow to shareholders.
As a result, they sell shares and bonds each year in order to fund their expansion projects. While REIT revenues are typically stable, I want to have some margin of safety in the form of a lower FFO Payout Ratio. Ideally, it would be flat or trending down over time. Diversification is an important thing to have in any portfolio, as it offers some level of protection to the company when something unexpected happens. I usually scan through the list of top tenants, and make sure that they do not account for an extremely large portion of revenues. In addition, I also want to see stable and hopefully growing occupancy percentages over time. I usually like to see a company that can manage to deploy capital raised in the public markets into projects that have attractive rates of return, have signed long-term leases and have escalation clauses that would allow them to charge higher rents over time.