Canadian Housing... Bubble?

Canada Housing... Bubble?

Housing in Canada is perhaps the most discussed topic. In fairness... We don't have much else. You'd think with as much land as we have and as much discussion as the topic received that we'd be able to easily solve any availability issues. You'd think.

The problems with housing starts with an inconvenient point. Despite the vastness of our empty country searching for relevance, most people want to live in half a dozen places. Particularly two that get the most discussion (Toronto & Vancouver). Both of which have water and transportation issues somewhat boxing them in. Anyways everyone agrees they're ridiculously expensive, particularly for the young family.

Mostly answers to such problems there are two simple answers. 

1: Move elsewhere. While sounding simple, people understandably don't want to listen to the "it's not that hard, just leave the place where you were born and raised that has all the jobs" argument. That's fine, so we should go to option 2

2: Build More. Easy right... Right... Here's my biggest problem with some of the complaints. (Let's pretend that people don't fight against development). It's expensive to build.

Building:

You need Land

+

Plan

Plan includes zoning, building permits, engineering work

+

Money

Your capital, debt, backing for the risk (pre-sales)

+

Incentive

Developers need to have a reason to develop, so that's profit - tax paid - interest

If you add up all the costs, you get something like this

You better believe this has increased since 2020.

In other words, if you want more supply, you need prices at that level minimum. Recently I saw someone talking about the ridiculous price of Toronto condos... the same person a few weeks earlier was asking 'now that prices are almost such that developers can't make money, what do they do? will they sell at a loss or wait?' I CAN'T MAKE THIS UP... but this story explains so much... why do developers pre-sell units to investors? Why hasn't supply been more responsive in 'bubble' prices? Why have prices been so high for so long? INCREMENTAL SUPPLY IS VERY EXPENSIVE. A bubble... with costs close to construction costs.

Beyond that you need policy to help (and there's definitely policy available to help) 

If you work that out as a baseline to compare against, the market isn't that bad. 

On the other hand, if you look at what has happened in the market, the obvious levels of shooting ourselves in the foot is killing me.

Mechanically: Raise rates= raising payments 

So we've collapsed the incentive to produce more supply while artificially made housing less affordable 👍👏👍👏.

At least immigration has been lower so the market can catch...

... Nevermind.

Ok but we must be working off a very high production base... After all prices are in "bubble territory" in some people's minds.

That's a matter of perspective

My perspective is: no... but I'm sure some would disagree. Like, it would be high if population growth was at 2005 or 1970 or 1985 levels... but last year we added 2.5x the growth that we had in those periods.

Even within the G7 Canada has low housing stock

Compared to the US population growth & starts 

So here we are... Market so concerned about 2008/9 that we're being cautious with investment.

Ironically, prices had received declined more on a % YoY basis than they did in the GFC.

I've all but given up trying to explain why I'm super bullish on developing real estate in Canada longer term. It hasn't mattered for months. I get it, price is going to hurt with rate hikes or a weaker economy. I also understand that my volume businesses may take a hit because of the margin hit and caution.

Do you see how that makes the problem worse (investment outlook better) afterwards?

What I believe the main constraint should/will be is labor. At this moment I'm sure some genius is about to tell me how rate hikes will help with that because the layoffs from interest rate sensitive sectors (like housing) will provide labor. But my point is there is a realistic concern about the right skilled labor availability to build as many dwellings as we'd need. I think the market will mostly figure it out but I also don't see why we need hundreds of thousands of tech worker immigrants but don't bring immigrants who want to build homes.

Hate on Pre-Con sales

One narrative that really grinds my gears is the hate out there for people 'speculating' on pre-constructed condos. (P.S. I've never done this). Builders need capital to develop $250M buildings. Banks don't want to take price risk, nor do builders. So builders often need to sell units before they build. Given that the entry home buyer uses their home as a place to live, they're less able to dish out large amounts of money years before there's a place to live. Investors step in and fund the development.

Yes, you understood that right, without those speculators that get all the hate, there'd be less supply and even higher prices. No... Adding speculative supply isn't jacking up prices. I understand it's an emotional topic but please think logically.

I know someone is going to read this and want to tell me why they're evil for different reasons. "They're funding the wrong type of housing, they're adding one bedroom that no one wants" again, I understand that people see the need for more family sizes units but understand that those take much more space and much more money to build. Understand also that if there weren't huge amounts of demand for those (despite the narrative) that prices & rents would look different and the market would react differently.

Demand to live in Canada and those cities has been enormous. It certainly hasn't been handled perfectly but the situation is far less inexplicably crazy or bubble-like than many imply.

People really hate people keeping properties as investments but again, they put up the same capital that can be used to build more and use that unit to (in their own small way) push down rent prices. Every unit rented out is added supply. Added supply reduces rent.

1988

There was a news article from 1988 about how unaffordable Toronto was. Seen Here Everyone wanted to be there then and everyone wants to be there now. Things that everyone wants, not everyone can have. That comes out by things being deemed unaffordable. P.S. if you invested in a condo in 1988, you did ok on price. If you include the leverage that a mortgage would provide, you did great financially.

Gold vs Toronto

Toronto Real Estate is a bubble... I mean according to everyone... But is gold?

Prices that keep going up always inspire people to jump to bubble conclusions. Meanwhile, a crappy currency like ours (not complaining, there are certainly far worse) loses value all the time. If populations are going to grow, costs of real estate will be tied to costs of production. Declining currency into a broadly increasing economy means more wealth chasing the most core in demand locations... Higher demand. Some people's ideas of affordable may not match the realities of building a house. Plus as Tim Melton put it, Even back when houses were under $20'000 all people could talk about was how expensive they were. The more things change, the more they stay the same.

Taxes

Speaking of costs of production... I think people would be astounded at how much of the cost of new housing is essentially tax. This report Will Feds Answer the Call identifies the huge percentage of the cost of production that is effectively tax. hint it's HUGE.

Yes that's 288k or nearly 1/3 of the price that are taxes just being passed along to the final purchaser... That's almost triple the developer's margin & more than wages of the team spending months building the house.

It's also been growing as a share

It's pretty crazy to think about. At 5% interest rates it's mean paying an added $1200 per month in interest... just on the tax

 So if we want to improve this in a sustainable way this is, to me, the simplest, best and least intrusive way to make things much better. (Targeted tax breaks for certain aspects of the industry). I think we could get prices down 25% with the right policy... Of course that would be temporary as the currency depreciation aspect and others will essentially mean over time prices likely keep going up.

FHSA

The FHSA isn't the best idea but isn't the worst. It also demonstrates a willingness for a targeted solution. For those not following: the First Home Savings Account or (First home tax free savings account) is something that I believe most young, income earnings non home owners should look into. It's tax deductible like a RRSP but has the benefit of not being taxed in the future (like TFSAs) the catch being that it must be used towards the purchase of a first home within a certain (but quite long) time. It's targeted because only non-homeowners can open one. Imperfect because on a basic level, if everyone has more money to bid for a price that doesn't improve the competition dynamics.

Interest Rates

People (who ignored history, logic and data) thought that higher interest rates would make housing more affordable. It's an easy story to tell yourself. Rates up = price down... that must be good for affordability right? WRONG. The price goes down BECAUSE there's less affordability at the prior price. Affordability only improves when rates stop increasing. Homes aren't bought all cash, what's actually purchased in an ongoing payment. Although the price goes down, the payment actually goes UP. Don't take my word for it, look at the last 50 years of data and see if you can see what happens to affordability ever time interest rates are raised.

Unfortunately, it's even worse than that... We agree that interest rate hikes drive down prices... so let me ask you, with lower prices, foes that incentivize more or less supply?

Unfortunately, it's still even worse than that... Building houses is expensive. Lots of money is needed up front to build. Raising interest rates is the definition of making that money more expensive. Just like with taxes... that cost must at some point be passed on to end buyers... or result in less volume at the margin.

We're really stupid.

ACTUAL IDEAS

Cut taxes on labor, materials, land transfer, development, sales etc.

Ease zoning restraints, if people want to spend lots of money on building residences don't make their life hell.

    Also, if someone wants to replace an office building with residences... let them

Offer developers lower interest rates for their construction.

Look, I've probably convinced no one of anything. So here's my suggestion. If you believe that houses are ridiculously expensive, build one and sell it... Make a fortune... if you can.

Release Valve 

It does bring up the question of a release valve. I mean we didn't solve much on pricing in this post... We just looked at why it's the case. So if people can't afford to live in downtown Vancouver, where can they afford?

Perhaps more interesting, why is there cheaper? After all, one of the best arguments I've heard for being bearish an asset with thousands of years of track record of being an appreciating asset is that it's just too dang expensive an entry point. The answer I come to is, 1: cheaper land. 2: easier permetting (less development timeline) 3: more favorable construction industry. IE lower costs, lower costs and you guessed it... lower costs.

The one I keep seeing, perhaps because all the options in the public equity market seem to point there, is Alberta. Alberta had both spare capacity from the last oil boom & one of the most conducive building environments... Also with spare capacity. Well, they've tightened significantly last year along with much of the rest of the country.

Note: Q1 of 23 was 'only' 45k (source Statistics Canada & me)

Just because I give you This table of declining vacancy rates doesn't mean that the market cares.

In reality we're nowhere near the equity prices of the last time people cared about Alberta. We're perhaps on average 1/3 of the valuation vs last time. On one hand that makes sense. People got burned by the excitement last time. We still haven't recovered from that. People now look at any boom as an inevitable bust. On the other hand, in the last cycle, such a ridiculous amount of money was first made in Alberta (pre 08)... That expectations may have became unhinged. My favorite anecdote is a company (which I didn't own then) that increased their dividend 100x through the cycle. Another company with land in the region was trading at 3x book value. Today the first company trades at 1/3 of their book value & the other, I'd argue the land is free in today's market cap.

We've gone from forgetting busts exist to forgetting booms exist. 

Dream Unlimited Power

Dream Unlimited Power 

Dundee Real Estate Asset Management otherwise known as DREAM Unlimited... Or in accordance with the thought I frequently have when hearing "Unlimited"...Dream Unlimited Power is the real estate company central to today's article. 

$DRM.TO is in my opinion a highly underappreciated Canadian company... Or at least it was until we decided to pop the real estate bubble and take prices back 30 years because construction cost no longer matters due to the fact that we're never going to construct another building. So +20 years of great results don't matter, obviously it's different at this time.

With that in mind, I'm going to write the rest of this as though I'm oblivious to that paragraph.

I want to talk for a second about book value. Quite basically, book value is normally what money you put into something. There are of course adjustments in some instances, some RE gets marked to fair value depending on the structure... But if you were to build a service, that would have no tangible value. If you buy a ski hill that now generated annual profits in excess of what you paid for it (growth or inflation) it can generate very high returns on equity because it's book value isn't fair market value. Land, same thing. The more you can use those assets for incremental return, whether that's through leveraging some of their true value for capital, earnings incremental returns on those assets or something else it gives companies the ability to, over time, amplify how far above book value their intrinsic value is. The only limit with this compounding ability over the long term is to keep finding high return places to deploy capital.

Dream 1.0 was 20+ years of growing real estate book value very quickly. They grew at high teens to low 20% CAGR for a long time because they were very good at deploying capital & developing real estate. In and of itself that's probably worth a nice premium to a book value that gets further outdated by the day... Or at least would if we still needed more real estate in the future. Sorry Dream 1.0 

Dream 2.0 is what we're starting to witness and what we were thinking about last year. Dream is now focusing on the unlimited power of capital light business. Growing a capital heavy business, like real estate or industrial (etc.) quickly means you're good at spending money. Your main limitation is money. You only have so much to spend because you only have so much. What if you could have more... You know

"Shut up and take my money",... And pay yourself a little fee to invest it.

Dream's recent pivot has been & I believe is very close to demonstrating why book value was nice while it lasted. They're building an expansive and rapidly growing asset management platform. Adding an additional business that can... In the right market... Grow at an almost unlimited pace. Better yet without needing to devote the bulk of their capital to achieve incremental growth.

Asset Management & Dream Industrial

Some people believe Dream should sell the Dream Industrial vehicle. It's a good point to think about. Dream would walk away with +$270 Million. Dream Office would also be infused with roughly $450M in pretax cash. Both could do a lot of accretive capital allocation with that much capital in this environment. It would equate to maybe ~25x trailing EBITDA on the asset management fees.

My problems with that scenario are;

1: Deploying that capital would be difficult. The trading liquidity of the in house options coupled with the facts that DRM & Cooper already have enormous stakes limit the open market buying potential. Then take-privates would need to happen closer to book (if not at or above it if the business is going to be desired in the future) office could almost SIB itself to private... If you want more office exposure.

Impact, Residential and Dream don't trade. 

So they're left with trying to take control of a REIT they don't own or essentially selling at private market prices only to buy at private market prices.

2: They'd be leaving their biggest public exposure to the strongest real estate asset class. DIR is probably their best shot of near term being able to grow public AUM. DIR also allowed Unlimited to add a private US industrial AM business line & $6B in private Industrial AUM with the GIC/Summit transaction. It's their biggest, most relevant tool for casually stumbling into more asset management growth.

It's weird but this spin off of a spin off business is probably a core asset at this point. Besides, they haven't got to the best part yet.

Asset of Tomorrow

 

Dream is a chimera (part lion, part goat, part dragon) it's difficult if not impossible to value for that reason. The main asset of today is used to create the main asset of tomorrow. It's the mark of quality business and capital allocation. So what's the asset of tomorrow?  What gets minimal notice today but is a company maker in the future?

For me, it's the $DIR-UN.TO performance incentive bonus. Looking at P/E or EV/EBITDA or any trailing metric for that reason and you might think it's worth 0. Next year perhaps something but very little eventually...

Well, it goes something like this Dream Industrial has a hurdle rate for their FFO. It increases by half of CPI. Currently it's roughly $1. For every cent over it, DRM gets roughly $0.01 per share in pure profit (EBITDA).

(Twitter: @CDNVALUESTOCKS aka Tyler) highlighted this in another one of his great and extensive write-ups on dream. Seen Here If you're interested in the company after this I recommend reading both of his write-ups. I do weigh in some here indirectly but 100% respectfully. He suggests a discounted cash flow to model what this asset is worth. 

I don't love DCF's as a rule, they aren't fair to tails in compounding. Using a reasonable mean isn't how things play out. I understand that a model is meant to be approximately what's coming not an exact representation of the future but their linear look at the evolving future rarely captures dynamic markets.

In this case there are a few aspects that have me unreasonably un-consensus on this asset.

Let's say that after this year FFO will be flat vs the hurdle... Worth exactly $0 in earnings but any incremental growth is 1:1... I don't think people appreciate how strong industrial real estate has been. Rents are up significantly in recent years even into Q1 of 2023 they were up relevantly QoQ. Canadian rents in DIR's portfolio had a 50% spread to market. After Q1 that's probably higher... On higher rents. But that doesn't matter for our 'after 2023' scenario right? Wrong. For the same reason that this spread exists, it will continue to exist. Only about 10% of rents roll over each year to capture the new, much higher rents. Higher rents and FFO... And incentive fee. So REITs who normally return most of their capital and don't grow much, have pent up growth well beyond forward CPI. 

Also, DIR just entered a JV with GIC to buy a REIT with lots of development land. A JV which will pay them the capital light property management fees in addition to letting them deploy capital at rates to further compound FFO/Unit. Barely to mention, taking them up to their target leverage ratio while further growing.

Ok but all this you can kinda model out right? I mean you can be more or less aggressive but it's somewhat straight line... What you can't is this. What happens next time that the public market likes industrial REITs (of which basically 3 remain in Canada). So what happens if they work their was through the pent up growth to for a random example 1.50 in FFO vs 1.20 hurdle... Then REITs are interesting again and they can grow unit count 33% in an accretive way. 0.30 becomes 0.40 from units then 0.45 from the accretion. I guess I can also just point to the many layers of factors that influence the future value as things that would complicate a model.

Plus if you can get further ahead of the hurdle, the more of DIR's incremental growth benefits DRM. Basically, the compounding potential of this asset is incredible. Tremendous leverage to the success of DIR and that's in addition to the rest of the NAV based asset management fees. Yet today, it's not part of the picture. In my honest opinion, that's why they're not looking too closely at selling the REIT for what would be a significant windfall profit relative to today's DRM market cap. The long term potential of the dual stream of profits from the partnership are very valuable. 

For reference to DIR's FFO of the last few quarters was:

0.22 in Q3 2022

0.23 in Q4 2022

0.25 in Q1 2023

At the end of 2022 the hurdle was 1.00 (Note their guidance was 90s so it sounds like there's a step back coming. Also Interest expense will likely be less favorable to DIR going forward)

The whole asset management side of the business is "In addition to" 

AM is in addition to asset growth

Performance bonus is in addition to asset management fees.

Neither requires more money once set up... That's a nice offset to the capital heavy development business.

Industrial real estate is in my opinion the crown jewel of real estate in markets recently. Public markets still (or again) are trading at discounts & development demand is pretty strong. It's not the cheapest of the categories but offers some organic growth. It's fortunate that DRM is overweight it on the asset management side. I think it offsets some uncertainty on the office side. Not to mention that their office equity should probably be supported by the DIR stake. (Note this was written before *that* I'll address it later)

I've stated in the past in a few conversations that a pure play industrial on NAV reversion was probably a simple trade that works... Unfortunately I was too stupid to do it because I viewed there as being far cheaper ways to get industrial exposure... Which have naturally vastly underperformed. Sum of the parts discounts, (while often great value and value add opportunities) sure do drive you crazy in the intermediate term...

More Leverage 

Their western Canadian land holdings... Held at old cost. They can use debt from that spread to incrementally develop at a higher yield than interest. That's incremental recurring income growth from tomorrow's assets. If we look at what the dream iMPaCT trust has been able to do (pull capital from paper gains on assets and use it to develop other assets) I think we can develop an appreciation for what's possible with Dream's land developments. Real estate in general fascinates me in this regard. Land + reputation= great potential. If they can develop to a high enough yield on cost to cover debt + amortize, the returns on the incremental equity that the company needs to provide are... Ummm... High? Yet for now, again, this land isn't generating any recurring value based on how the company (and I) would measure it. The 'dead money' land assets can generate great ROEs going forward.

Problems With Measuring Development

The elephant in the room is almost becoming the 'Build to sell' segment. It's irregularities mean I don't ascribe much value to the develop to sell business' cashflow on any given year. I almost certainly should. It is after all what has driven a tremendous amount of value to date. I prefer not counting on anything that isn't recurring when discussing multiple (this is probably why I'd willingly suggest that it's not incredibly special from a earnings perspective). This also hurts construction businesses. The market doesn't adequately appreciate them. The earnings & cashflows are all over the place. Some years are great, others completely lacking. Normally this type of erratic line of business would be valued off of book value. Which makes it highly unfortunate that I believe that 'book value' is about to be out of date in a big way.

People prefer stable cashflow and linear growth. They want a model to point to a cashflow that goes up and to the right otherwise every time Dream has a good year it proceeds to set off the "declining EPS" alarm bells right after. There's a cohort of investors able to use their brains and not their computers to work past this but it makes the idea of a FFO multiple less likely to be helpful or useful either way. Western Canada may have some type of regularity or not but I don't think city development ever will. Neither will ever be as stable as real estate NOIs or asset management fees.

I don't know what the answer is to this. They should definitely keep developing, it earns great returns. Even if (I &) the market doesn't appreciate it adequately when the profit arrives with a multiple, from a 30000 foot view we can appreciate the snowball effect. Having your own NAV estimate somewhat works but guarantees perpetual discounts.

Discounts are mathematically almost irrelevant to the long to infinite term investor. Half of 50 still doubles to reach half of 100. Valuation can of course improve or deteriorate but if value keeps going in the right direction the bulk of the returns will be the same. I say that with the full realization of what the last decade held for Dream's stock. There's a realistic limit to multiple contraction. I highly doubt we're going to 0.05x book. I suspect the valuation will eventually revert to something that looks more reasonable... whether that's fundamentals catching down or price catching up, it's too soon to say. The latter is better. If they keep doing their thing and shareholders keep holding, the day to day price doesn't matter as much anyways.

Dream Residential

Dream residential is a very odd asset but I wanted to mention it briefly. It IPO'd at a very unfortunate time. They missed the period where they may have been able to raise 10s or 100s of millions and entered the market when everything was falling apart. It's ideal to have a residential REIT in the public markets as sometimes it can probably be a great AM exposure to have. That said... having a US focused REIT listed in USD on the TSX seems a little abnormal to me. Don't get me wrong, it's not the only one & can still do well in the right environment but it's different. For a combination of reasons, it's now sitting there at 45% of NAV paying a +5% distribution & buying back units. DReaM's stake in it is relatively small for the time being but I still like their optionality with this vehicle. I was a bit surprised at the launch about the US focus. After all it was Cooper who said on the iMaPCT conference call that the capital necessary in Canada to accommodate growth was 'insane.'

Tweaking Estimates 

It's not all good news. 

Their much higher interest expense from last year will likely be higher still this year. 

Stabilized income from the same assets will likely be higher.

New properties come online so that portion of the debt can get cheaper (mortgage debt is cheaper than construction loan/line of credit). Other completed assets can be sold to free up capital.

The SG&A will likely come down a little without the settlement. 

Impact Trust's distribution was cut by 60% which will more than offset increased stake.

AM likely to increase.

Still I can make the argument that measuring it even on a FFO or at least recurring FFO perspective, they're not all that impressive today. There are certainly peers that trade at lower equity cashflow multiples & equally large discounts to assets.

I also believe that some of the torrid book value CAGR has been or is being sacrificed to support growth in the asset management platform. Essentially less doubling down on short term bets and more conversion to stable value... I hope this is more of a start-up feature of having exposure to many classes of RE to grow from. the asset management growth has been spectacular. That is more a function of having all the fishing poles in the water than the adding of own built assets. It's hard to argue with the book value growth results from DREAM's development business running it as they did for the long term.

There's also office exposure that, while above average in the asset class, is still office.

They also do some bizarre things from time to time that I don't quite understand but trust their experience. Spending millions on a stake in the distillery district with REITs trading at half NAV... While also directionally targeting having more liquidity. Or starting a debt venture... Which could be great or terrible but I don't have the information to know yet.

There's also higher interest rates across the board which isn't great & is punishing development... Great policy for dealing with expensive housing right!!! 

Also, most listed REITs trade at substantial discounts to their Net Asset Values. So while this provides dream an effective way to amplify the capital they deploy... It also limits their otherwise almost unlimited ability to raise new outside money. I would point out that they're doing well with their balancing of public vs private asset gathering. One is virtually always at a premium to the other. Having this balance allows them to bridge the valuation gap by raising capital on one side and buying assets from the other. It works and can make sense in both directions.

Pre-GIC numbers on top, Post GIC chart below. 2020 dip was Dream Global sale in 2019.

Value

It's difficult for me to point to a metric and suggest it should trade at AxB or Q% of Z. If the market wants to look at a P/B relatively in line with an arbitrary market number, that's fine. Trading inexpensively doesn't hurt anyone. I believe we are in a transition period. Asset focus to asset management focus. We're still in the murky middle & I believe that's caused excess volatility.

What's it worth? if you want a specific answer, No idea. There are too many moving parts... None of which tell you about the much bigger question... What will it be worth. To that I dare not give my answer to where I believe the fair value will be in the distant future. 

TD

Toronto Dominion... (Wow I feel old calling it that) estimated Dream Unlimited to have a NAV of $70/share a few months ago. I don't know that I can come up with a better number for a net asset value. Now, as I said before sum of the parts often get discounts ✅. Real estate is out of favor ✅. People hate office exposure ✅. Land public market discount ✅. 

They say that makes them worth $43 to the market. Based on very little I had something like $45 in mind as a reasonable valuation in this kind of environment. 

TD's NAV of $31.5 for the asset management arm both feels quite high and doesn't. I pencil it at $15-18 today (Up from $10-12 last year)... But...if I told you that there was this asset light business growing sales nearly 50% CAGR and had $1/share of run rate free cash flow (as they might going forward), it's the type of thing that I could imagine the market assigning a multiple which some might find ridiculous. (Well above 30). I think it alone will eventually be worth enough to make this an attractive investment. My assessment of today's $15-18 reflects a skeptical real estate market offsetting past AM growth and a less forward looking market when it comes to growth trends. In plain English, I believe that numbers will be low if things go mostly as planned.

Measuring the assets is far messier. Public REIT equities trade at severe discounts to their stated NAVs, sometimes justified, sometimes not. Depending if we want to discuss today's NAV price, today's market price or what could be the value years out in XYZ scenario you can come up with 0 or a lot of value. Different discounts for different assets make coming up with an exact number both pointless and impossible.

I don't particularly want any kind of separation because, while I think the shares might initially like the simplicity, I think there are benefits to the complicated structure. Using strengths to capitalize on weaknesses. A discount to "whatever" fair value is, can be a positive if it means fair value can be grown faster.

Point and case being the ability to use EBITDA generated from AM to cover development debt interest service. Also, it's not like many of the parts would be fully appreciated in this market either.

As much as I rave about the Asset Management business, I'm reminded of a spin-off example used in a book. Marriott spun their assets out from their management business (or vice versa) hotels sucked and were out of favor... Hence the spin. The spinoff asset heavy business (hotels... yuck) proceeded to outperform the capital light business. I'm not saying that in favor of a spin but instead to point out that there can easily be a tremendous amount of value hidden in assets that the market hates... Again. It's almost like asset heavy businesses can be good over the long term or something... nah.

I'm half shocked at how cheaply shares can be had at this juncture, given the prospects and risk/reward. 

A rapidly growing asset management platform 

Quality Real Estate

Great Capital Allocation

Great Reputation

Then I remember

Office is dead

Residential is toxic because of "Bubble" narrative (This is the story I take the biggest issue with)

Land is irrelevant (until it isn't)

Debt is more of a burden

And the asset management income was still relatively small.

Dream is fairly small company that trades less than $1M/day with 1.5 analysts.

Last Quarter

Looking at the last quarterly results I think we saw all of this. Asset management had a good quarter even on half a quarter of GIC. A-Basin had strong numbers, it's only a shame that this small and seasonal. it had nearly 20% YoY growth.

Then you had the known step down in FFO from unit distributions (Dream Impact Trust cut their distribution). As much as a quarterly $8.7M from real estate distributions feels like it would warrant a decent value multiple. The strength of the two trusts that constitute that might tell a different story. The stability of real estate revenues is somewhat undercut but the fact that the segment is lower YoY and Office yield is high.

Then you have every other segment which, in this quarter looked like liabilities. My main reason for thinking reporting FFO wouldn't do much is apparent in the Development GTA/Ottawa line... 

2022 FFO = $30.5M

2023 FFO = $-1.7M

That's why this looks erratic, any given quarter a future asset looks like a liability because of the debt and interest on the development.

I showed this chart next to 3 others which underperformed it but were more stable and asked which people preferred. Most people placed this last because of the instability making it look riskier.

Net it all out and you get a relatively illiquid real estate company with average metrics... To the average observer. Remember, metrics are a snapshot at a point in time.

At some point, earnings, dividends, cash flows, whatever you want to measure with... Will show up in a big way. The stock will eventually track some kind of fair value. If bulls are right that's higher today and will be far higher in the future. If mistakes are made, or markets change in unexpected ways, value may well be lost first. I'm content with the bigger picture I see and the direction I believe is being set up for years and decades to come. That's why I continue to own. 

Addendum On Dream Office Move

I wrote the core of this before Dream Office's recent DIR sale + Substantial issuer bid. 

As I reflect on in the core of the article, Unlimited has a lot of their portfolio exposure in industrial; most of their AUM & a substantial portion of indirectly held equity. Now the recent headache has been their strongest performer of recent years (industrial) is held within their weakest performer (office).

Office is effectively trying to trade half of their Industrial for 1/4 of their (Office + Industrial).

The added wrinkle being that DRM (which owns 36% of that entity, may tender some of their stake into this transaction at nearly half of their stated NAV.

You could read this as "Their one chance to escape sinking Office"

I'm not sure I but that because if you valued office at $0 you'd only be paying something close to NAV for the DIR+ residential density added development.

So is office really that bad that they want out at $0? Well here's where there are more pieces to the puzzle. Office isn't the only entity trading at a huge discount to their stated net asset value. MPCT, DRR and DRM itself. Selling $1.00 for $0.50 sounds pretty dumb and demeaning to that $1.00 but if that capital can then be used to buy $1.00 for $0.33, you'd add a lot of value from the transaction.

However, neither would particularly explain the other point of debate on the transaction... Why sell industrial units at 84% of NAV when (assuming NAV is real and accurate) you could sell buildings at 100% of NAV. I'd assume that at a minimum, the liquidity to easily make the sale isn't easily available.

Of course skeptics would point to the "obvious fact" that NAV is effectively a made-up number. Particularly for Office. Many people will ironically effectively use this argument to decide that the only true answer to "Then what's it actually worth?" Is "Less." Less than NAV? No... Less than the market cap. Anyway. I'm still in the camp that I wouldn't be in office at NAV but half NAV for good locations, asset level debt & long term leases seems more likely a bit much.

I truly don't know what to think about the transaction. I was actually mainly getting quite interested in D-UN because it was DIR +Dev with Office free. The market had no care about anything beyond the office name. In that way, selling the DIR to get more levered long office makes it less appealing from that perspective. I was content with them NCIB &SIB-ing themselves to private by disposing of the incremental office. I wanted DRM to effectively own the core of the portfolio.

I'm not sure I much prefer the capital going to MPCT (which while cheaper has a large DRM stake and overlap already with DRM and also trading liquidity headwinds) or DRM directly which is again, trading volume constrained & Cooper stake limited with how much can realistically be bought. DRM has also been discounted vs NAV more and longer and so when measuring the discount vs the normal discount & weighing that against external opportunities to add value it's less special.

Ie: If you can always buy $1 for 0.70 in DRM buybacks (with the limited amount you can buy DRM) so for a similar discount it makes more sense to put the money elsewhere when those opportunities present.

In the end, I suspect the whole situation on both sides was about right-sizing exposures as much as other things. They may not want to have that much capital in the office exposure, may want to add some to MPCT or Buybacks. I don't think their % ownership will be much lower after this... Particularly because the response has left a large spread between tender price and trading price... People seem to assume that it will be more than fully tendered. (Holders may get less than their desired fill & the price is assumed to fall afterwards). I don't want to speculate at who or how much at this point. They will own between 16% and 50% after, they may simply tender 25% of their holdings inline with the offer and see what happens with what everyone else wants to do. I've watched this type of thing go both ways in extreme manners (seen essentially only large insiders tender & seen insiders tender 0). There are lots of effective places where capital can be put in real estate (if NAVs are remotely accurate) so I'm not overly concerned.

A Concluding Note

Investors gravitate towards a single story. Sometimes that means getting tomorrow's price, sometimes it means the share price is being cursed by a fraction of your exposure. I believe Dream is built in a way where there is tremendous long term value add potential. I also believe it's built in a way that makes it unlikely for the market to reflect all of that in real time. Fair value will continue to be a longer term center of gravity.  

There are a few potential catalysts for the recovery of the stock/sentiment. We seem to have flown right past the Toronto RE price rally we've seen off the recent short term bottom but if that keeps going, at some point it will be evident that DRM and MPCT are doing well with those projects. Rate decreases would probably do a bit to get people taking a fresh look at real estate. My confidence in central banks doing something reasonable was minimal but completely evaporated 8 months ago. Anyways, the Canadian consumer is beyond tapped out and has organically growing mortgages at these rates. Without human QE we'd be in a severe recession with the blame squarely on the bank of Canada. That's just an opinion, the rails saying we're currently in a mild recession amid 2% population growth are facts. I believe rates should be and will be lower eventually. I think that will double juice real estate (cap rates on higher mark to market rents & lower interest). A peak & reversal in office vacancy could also make things interesting in slow motion. If D-UN no longer looked like a value black hole there's a rather large spread to overcome between stated private value and assumed value. If MPCT-UN completes their development without issue and de-levers they too might look pretty interesting at higher levels.

The foray into asset management has this far been very successful but with the exception of perhaps a few months last year, has been mostly ignored. It's actually pretty amazing what they have been able to do with GIC in this rather awful environment for asset managers... but no one cared. At this point, and this price, that's getting a bit nonsensical. I think within 2-3 years it'll be apparent that only the asset management business should be worth more than today's market cap. We'll probably still be talking about a discount to NAV then. The development business will still look like a drain in all the quarters it doesn't deliver 10s of millions in profit. The asset base will likely be larger too.  It definitely seems like a target rich environment to deploy incremental capital. I believe they'll be adding long term value with every dollar they deploy on the asset side so even with all the AM focus I think the asset value (book) per share will continue to do just fine.

I think the price is extremely washed out at this point.  You could almost argue that you're getting a discount on the half of the company that you prefer and the other half free. I don't know when that will change but I believe long term shareholders can find significant potential that should be rewarded with patience. Time is the friend of the great company.

Disclosure: At the time of this article I own $DRM.TO & $MPCT-UN.TO as well as indirect stakes in other entities mentioned in this article.
Not investment advice, please see (Can Do Investing: Ground Rules) page for more information.