Douglas Emmett: Attractively Valued Before Fed Policy Normalization (Rating Upgrade)

Core Viewpoint - Douglas Emmett, Inc. has performed in line with the Vanguard Real Estate Index Fund ETF Shares in 2024, achieving a total return of approximately 12.7% compared to the benchmark's 12.3% gain, leading to a recommendation for a buy rating due to attractive valuations and potential benefits from monetary policy normalization [2][12]. Company Overview - Douglas Emmett is primarily an office REIT with a growing multifamily exposure, where as of June 30, 2024, offices accounted for 80% of total annual rent and multifamily for 20% [3]. - The REIT is focused on California (88% of annual rent) and Hawaii (12%) [3]. Operational Overview - In Q2 2024, Douglas Emmett reported a Funds From Operations (FFO) of $0.46 per share, a decrease of 4% year-over-year, influenced by office portfolio weakness and increased interest expenses [4]. - The leased rate for the office portfolio was 80%, down 2.9% year-over-year, while the multifamily portfolio was 99% leased, down 0.2% year-over-year [4]. Updated 2024 Guidance - The company narrowed its FFO outlook to $1.65-1.69 per share, with Q2 results benefiting from tax refunds, while utility expenses are expected to rise in Q3 [5]. - At the midpoint of $1.67 per share, the FFO multiple stands at 9.5x, which is considered attractive for a commercial REIT with significant multifamily exposure [5]. Debt Position - As of Q2 2024, Douglas Emmett had a net debt of $4.2 billion, representing 58% of its $7.3 billion enterprise value, which is relatively high for a commercial REIT [6]. - Floating rate debt constitutes 31% of total debt, positioning the REIT to benefit from potential Fed rate cuts, with estimated savings of up to $25 million from lower interest expenses [6]. Market-implied Cap Rate - The market-implied cap rate based on Q2 2024 NOI of $162.7 million suggests an attractive cap rate of 8.9% against the $7.3 billion enterprise value [8]. - Assuming a fair value cap rate of 6% for the multifamily portfolio, its value would be approximately $2 billion, leaving the office portfolio with a market-implied cap rate of 10% [8]. Valuation and Prospects - Douglas Emmett is attractively valued with an FFO multiple of 9.5x and a market-implied cap rate between 7% and 8.9% [10]. - The company’s capital structure is well-positioned to benefit from Fed rate cuts, although the near-term expiration of interest rate swaps may temporarily negate some benefits [10].