What You Need To Know Before Investing In LXI REIT plc (LON:LXI)

Simply Wall St

LXI REIT plc is a UK£443m small-cap, real estate investment trust (REIT) based in London, United Kingdom. REIT shares give you ownership of the company than owns and manages various income-producing property, whether it be commercial, industrial or residential. The structure of LXI is unique and it has to adhere to different requirements compared to other non-REIT stocks. In this commentary, I'll take you through some of the things I look at when assessing LXI.

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REIT investors should be familiar with the term Fund from Operations (FFO) – a REIT’s main source of cash flow from its day-to-day business activities. FFO is a higher quality measure of earnings because it takes out the impact of non-recurring sales and non-cash items such as depreciation. These items can distort the bottom line and not necessarily reflective of LXI’s daily operations. For LXI, its FFO of UK£20m makes up 91% of its gross profit, which means the majority of its earnings are high-quality and recurring.

LSE:LXI Historical Debt, May 22nd 2019

Robust financial health can be measured using a common metric in the REIT investing world, FFO-to-debt. The calculation roughly estimates how long it will take for LXI to repay debt on its balance sheet, which gives us insight into how much risk is associated with having that level of debt on its books. With a ratio of 12%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take LXI 8.56 years to pay off using just operating income, which is a long time, and risk increases with time. But realistically, companies have many levers to pull in order to pay back their debt, beyond operating income alone.

Next, interest coverage ratio shows how many times LXI’s earnings can cover its annual interest payments. Usually the ratio is calculated using EBIT, but for REITs, it’s better to use FFO divided by net interest. This is similar to the above concept, but looks at the nearer-term obligations. With an interest coverage ratio of 5.9x, it’s safe to say LXI is generating an appropriate amount of cash from its borrowings.

In terms of valuing LXI, FFO can also be used as a form of relative valuation. Instead of the P/E ratio, P/FFO is used instead, which is very common for REIT stocks. LXI's price-to-FFO is 22.67x, compared to the long-term industry average of 16.5x, meaning that it is overvalued.

Next Steps:

LXI REIT can bring diversification into your portfolio due to its unique REIT characteristics. Before you make a decision on the stock today, keep in mind I've only covered one metric in this article, the FFO, which is by no means comprehensive. I'd strongly recommend continuing your research on the following areas I believe are key fundamentals for LXI:

  1. Future Outlook: What are well-informed industry analysts predicting for LXI’s future growth? Take a look at our free research report of analyst consensus for LXI’s outlook.
  2. Valuation: What is LXI worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether LXI is currently mispriced by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.