Monday, May 14, 2018

A current AIM International Fund Holding: City Office REIT, Inc. (CIO) by Michael Healy. "Patience: Plenty of Time for CIO's Upside"

City Office REIT, Inc. (CIO, $11.73): “Patience: Plenty of Time for CIO’s Upside”

By: Michael Healy, AIM student at Marquette University

Disclosure: The AIM Equity Fund currently holds this position. This article was written by myself, and it expresses my own opinions. I am not receiving compensation for it and I have no business relationship with any company whose stock is mentioned in this article.


City Office REIT, Inc. (NYSE: CIO) owns and operates properties in the Southern and Western United States. As their name implies, they are targeting quality office properties in mid-sized metropolitan communities.  

• CIO is domiciled in Canada and falls under the international fund despite deriving all of its revenues in the United States.

• CIO has continued their active pursuit of office buildings, adding 1.6 million square feet since the stock was pitched in early October 2017. They successfully closed a major deal securing new property in San Diego in late October.  

• CIO has an experienced management team. While their stock IPO’d only about four years ago, each of the three head executives have 20 years of experience in the industry minimum. The board includes the CEO and 5 other independent board members.  

• In the AIM International portfolio, CIO has been a laggard. It is trading below the price we purchased it for in October.

• CIO’s original thesis has yet to play out, but it’s still valid. Discussed below are reasons why the argument is still work and why CIO deserves more time to experience the growth projected in October.

Key points: City Office REIT has several unique advantages that other REITs don’t have. For one, CIO’s smaller size means it has to target smaller properties in the $25 million to $100 million range. In that area, especially for offices, CIO has found that there is less competition from larger institutional investors. Additionally, CIO has a wise real estate investing strategy that makes perfect sense, but isn’t taken advantage of by everyone in the industry. CIO has strategically picked its metropolitan areas based on population growth rates and job growth. Targeting healthy markets has meant CIO seeking properties in cities such as Dallas, Phoenix, Denver and Tampa. 71% of their portfolio comes from those four cities. The projected employment growth across their buildings’ cities is 8%, above the national average of 4.4%, and the population growth for their areas is estimated at 7.1% through 2023, while the national average is 3.7%.

City Office REIT sold a property in Q1 2018. Washington Group Plaza in Boise, ID was sold for $86.5 million, representing an internal rate of return of 22% and producing a gain of $47.0 million. CIO’s three recent dispositions have total generated gains over $70 million.

That’s not where CIO is stopping. The company just acquired Pima Center in Scottsdale, Arizona. The property is 99% leased already and was purchased for $56.5 million. CIO is also in the process of renovating Park Tower in Tampa, Florida. CIO has already successfully purchased the property and managed to raise rents approximately 20% higher than the previous owner. CIO rents to highly credible tenants including large corporations with adequate capital and government agencies.

What has the stock done lately?

The stock was pitched near it’s all-time high trading price. After we purchased CIO, the stock price decreased slightly. A more rapid decrease occurred in February 2018, when CIO released and missed earnings. However, the chairman, CEO and CFO have bought more shares of the company indicating confidence. This combined with the announcement of the newly acquired Pima Center have helped the stock start to rebound.

Source: FactSet

My Takeaway

I anticipate the original thesis of CIO to play out. They are still trading below their peers in terms of P/FFO. Additionally, the management team is very strong. The way they are actively targeting growing markets, but smaller properties seems to be something other real estate trusts could replicate, but still haven’t for whatever reason. CIO has made strong gains on the sale of their properties and I’d expect this to continue with real estate values rising. Overall, the stock would still be a buy recommendation.