Picking Triple Nets In A Tough Field; Move To OW(STOR & NNN), EW(SRC)

Transcription

1 July 23, 2015 Real Estate Investment Trusts Picking Triple Nets In A Tough Field; Move To OW(STOR & NNN), EW(SRC) and UW(SIR) Triple Nets have underperformed YTD on rising rate fears and cost of capital has increased, reducing the prospects for accretive external growth. REITs with lower cost of equity and balance sheet flexibility or targeted acquisition strategies will be relative winners in our view. Triple Nets have underperformed YTD and investment spreads have narrowed. Rising rate fears and a ~60bps move in 10yr yields have driven Triple Nets to underperform by 400 bps vs the REIT group. This has driven higher costs of capital and lower investment spreads across the space. With a flattish forward trajectory for already rich asset pricing, accretive external growth will be harder to achieve (see our latest broker survey out today). Recent move in the 10yr priced in but we remain on the sidelines. The recent 2-3x FFO multiple contraction is in line with prior periods of steadily rising yields. Our interest rate strategist sees yields rising modestly to 2.75% by 2Q16 (Base Case) from the current 2.35%. Sentiment remains negative however, and we have several concerns including: 1) a steeper rise in 10yr yields (MS Bear Case of 3.20% in 2Q16), 2) stocks now trade at 4% discount to NAV, and 3) ongoing competition for deals may limit cap rate expansion. MORGAN STANLEY & CO. LLC Vikram Malhotra Vikram.Malhotra@morganstanley.com Landon Park Landon.Park@morganstanley.com Real Estate Investment Trusts North America IndustryView See exhibit 12 for our rating and PT changes. Exhibit 1: STOR Is Our Top Pick In the Space Source: Morgan Stanley Research Exhibit 2: NNN & STOR Best Positioned To Maintain Investment Spreads In-Line In this environment, we prefer companies that are best positioned to maintain investment spreads. Low cost of capital, balance sheet flexibility and a targeted investment strategy are key tools. Move to OW on NNN: 1) Ability to fund future acquisitions with higher leverage is underappreciated. Our 16' FFO est. is $0.05 above consensus. 2) One turn discount to O is unwarranted given higher asset quality and ability to maintain spreads. Move to OW on STOR: Focus on off-market deals with higher yields provides 1) additional buffer to spreads in case rates rise further and 2) potential upside to our estimated 17% total returns in Move to EW on SRC: 1) Key catalysts (reduced tenant concentration) have played out but concerns have shifted to growth and management communication. 2) High cost of capital reduces potential for accretive growth. Move to UW on SIR: 1) Highest cost of capital in our coverage limits accretive external growth. 2) Recent actions have further entrenched the external management structure, a key investor concern. Maintain UW on O: 1) Premium valuation to NNN at risk given less flexibility to leverage debt and maintain spreads. 2) Potential for 2015 guidance increase largely priced in. Source: Thomson Reuters, Morgan Stanley Research Morgan Stanley does and seeks to do business with companies covered in Morgan Stanley Research. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of Morgan Stanley Research. Investors should consider Morgan Stanley Research as only a single factor in making their investment decision. For analyst certification and other important disclosures, refer to the Disclosure Section, located at the end of this report. 1

2 Recent Move in The 10 Year Priced In But We Remain On the Sidelines Triple Net REITs have underperformed the broader REIT group and the S&P500 (by 4pp and 10pp) year to date as rate fears have emerged (10yr treasury yields have moved up ~60bps) and investors have favored sub sectors with shorter lease terms. We believe the market has priced in the recent move in the 10yr as evidenced by the magnitude of multiple contraction. Triple Net FFO multiples have declined 2-3x, in line with prior periods during which 10yr yields have increased ~2x (~125 bps). Investment spreads, which correlate well with FFO multiples have also declined as cap rates have remained flat. Sector valuation appears fair and we are less negative on the sector versus the start of the year but note several factors as ongoing headwinds. Exhibit 3: Multiples Have Contracted 2-3x The 10yr has moved up 60bps since late January and Triple Net FFO multiples have contracted 2-3x. This compares to the prior two periods during which the 10 year increased steadily by ~125bps (mid 2005 to mid 2006 and more recently from April 2013 to December 2013) and FFO multiples contracted by 1x- 4x. We acknowledge that this is a wide range, but the data suggests the market is pricing in the recent move in the 10 year. Source: Thomson Reuters, Morgan Stanley Research ; Average includes NNN, O, EPR, LXP Our MS interest rate strategist, Matthew Hornbach, sees a flattish trajectory for 10yr yields during the rest of 2015 and only an additional 35bps increase to 2.75% by 2Q16. This would suggest Triple Net multiples may see only modest downward pressure from current levels. We note that in his Bear Case however, the 10yr moves up to 3.20% by 2Q16, close to December 2013's levels. From a fundamental standpoint, the recent decline in multiples appears fair. We compared historical investment spreads of O and NNN (acquisition cap rates versus cost of capital) to their forward FFO multiples (NTM) and found a 60-80% correlation. As can be seen below, investment spreads have declined ~50-75bps during the past six months and NTM multiples have declined a little over 1x on average. We note this is different from the 2-3x reference earlier which was calculated based on specific start and end dates to capture the exact moves in the 10 year treasury yield. Exhibit 4: Recent Valuation Compression Appears Fair... Exhibit 5:...When Compared Against Investment Spreads Source: Thomson Reuters, Morgan Stanley Research Source: Thomson Reuters, Morgan Stanley Research We are now less negative on Triple Nets but note several factors as ongoing headwinds. At the start of the year we saw several factors negatively impacting Triple Net stock returns including rich valuations, a supply/demand imbalance and increased competition (see Survey Highlights Increased Competition; Cap 2

3 Rates Flattening, Jan 15, 2015). Although valuation across the Exhibit space 6: has Triple come Net more Valuation in line Now with historical More averages, we note several headwinds including 1) Reflective Of Headwinds competition from private buyers, 2) premium/discount to NAV or P/NAV currently at -4% versus 10% at the start of the year (a signal that the market may not be receptive to elevated external growth) and 3) lower investment spreads. Source: Thomson Reuters, Morgan Stanley Research 3

4 Cost of Capital / Investment Strategy Are Key For Ongoing Accretive Growth Triple Net REIT FFO multiples have declined by 1-2x during the past six months (2-3x from the late January peak) and the weighted average cost of capital has increased bps across the space. This has reduced investment spreads (acquisition cap rates minus cost of capital) and the prospects for future accretive external growth (a key driver of cash flow as internal growth is only driven by modest rent bumps) for names with high leverage and relatively higher cost of capital (SIR and SRC). Looking forward, we favor companies that have 1) a combination of relatively low leverage and low cost of equity or 2) ability to generate higher per share growth through a focused investment strategy. Our analysis suggests NNN (move to OW from EW) is best positioned to increase its use of debt to fund future acquisitions and believe this flexibility is underappreciated. We also believe STOR's differentiated acquisition strategy will allow the company to maintain attractive investment spreads and achieve per share growth above peers (move to OW from EW). SIR (move to UW) and SRC (move to EW) on the other hand have less capital raising flexibility in our view and their investment spreads will face greater pressure. Triple Net FFO multiples have declined by ~1.5x during the past six months as rate increase fears have emerged, reducing the prospects for external growth. Multiples have declined from around 15.0x to 13.5x currently and the cost of equity capital (and WACC) has increased by bps across the space as debt costs have increased only marginally. Price to NAV has also declined from the 10% to -4%, a clear signal that the market is not supporting external growth for many of the Triple Nets. Companies best positioned to maintain investment spreads will be winners in our view. Strong balance sheets, relatively low cost of equity and/or targeted investment strategies are key tools to achieve. NNN has the lowest leverage at ~4.3x, followed by Realty Income at 5.7x, STOR at 6.5x., SIR at 6.6x and SRC at just under 7.0x. Looking at long term cost of equity, we estimate that NNN and O have the lowest in the mid 7% range, followed STOR, SRC and SIR. This combination of lower leverage and lower cost of equity results in weighted average cost of capital (WACC) for NNN and O that is at least 100bps lower than peers. Assuming companies fund new acquisitions with debt and equity in equal proportion and cap rates remain relatively flat, NNN should have greater success at maintaining investment spreads. STOR's unique origination strategy and focused investment strategy (buying non investment grade assets at higher yields) should also allow for ongoing accretive growth. On the other hand, SIR and SRC may find it tough to maintain spreads given these names have lower funding flexibility as can be seen below. Exhibit 7: NNN Benefits From Low Cost Of Equity and Low Leverage... Exhibit 8:...And Is Positioned To Take Advantage Of Increased Used of Debt; SIR & SRC's Spreads Under Greater Pressure Source: Thomson Reuters, Morgan Stanley Research Source: Thomson Reuters, Morgan Stanley Research NNN's ability to utilize debt to fund future acquisitions (and rely less on equity) is underappreciated and is a key advantage in a rising rate environment. The company has been steadily reducing its leverage 4

5 levels during the past 2 years in preparation for a rising rate environment according to management, and we believe it is now well positioned to take leverage up and see greater upside to FFO estimates. Our updated model reflects a 50% / 50% split between debt / equity (versus 35% / 65% which we believe consensus is baking Exhibit in), 9: and We is Are a primary Above Consensus driver of our For $2.36 STOR FFO & estimate for We are $0.05 above the Street. While we NNN view O as another company with this opportunity and were impressed with the depth and breadth of the mid and senior executives following our headquarter visit, management indicated it will maintain a 40% / 60% debt to equity split. On the other hand companies such as SIR and SRC may find it tough to take leverage up and / or issue equity given that their stocks are trading below NAV. Source: Thomson Reuters, Morgan Stanley Research 5

6 Company-specific Factors Help NNN & STOR, Weigh On SIR & SRC Beyond the external growth and valuation framework laid out above, several of the companies have unique risk factors that factor into our ratings. NNN & STOR's dividend potential: We see potential for outsized dividend growth at both NNN and STOR over the next year, which would lead to better total returns than we estimate currently. NNN's payout has fallen below 80% after spiking into the mid-90% range during the recent downturn. Dividend growth has lagged AFFO growth by several percentage points in recent years as NNN took a more conservative stance than key peer O, which has maintained an 85-90% payout since We believe NNN could grow its dividend by over 10% without significant backlash. STOR could also grow its dividend significantly in the coming year with expectations for 10%+ AFFO growth in 2016 and a payout ratio in the low 70% range, well below its peer group. Exhibit 10: NNN's AFFO Payout Ratio Has Trended Down In Recent Years... Exhibit 11:...And, Along With STOR, Has Room To Increase Closer to O Source: Company Data, Morgan Stanley Research Source: Company Data, Morgan Stanley Research SIR's external management to continue to weigh on shares despite recent actions: On June 8, SIR and other RMR-controlled companies announced that they plan to acquire 48% economic ownership of RMR (SIR's external management company), though RMR's historical owners would retain voting control of the company. SIR and the other RMR managed companies would pay for their share of RMR with a mix of cash (~25%) and restricted shares (~75%) in an aim to better align RMR management with the REITs. In exchange for this, the management agreement between RMR and the REITs was amended to include a new termination fee, which we estimate would total ~$ mn or ~20% of SIR's current market cap, at the current G&A run rate. While these actions create greater visibility into RMR, investors concerns regarding RMR's voting rights and large termination fee are likely to continue to weigh on SIR's shares. SRC's growth prospects and messaging concerns outweigh progress on Shopko: While the catalysts that drove our previous OW rating have played out, the stock has failed to react positively. In fact, SRC's valuation gap to peers has widened to almost 5 turns from the previous 3-4 turn discount. While this is partially due to the company's higher leverage in the face of rising rates, we believe sentiment on the stock remains negative as management has struggled to articulate a clear growth strategy. 6

7 Valuation Exhibit 12: Rating & PT Changes Source: Morgan Stanley Research Price Targets: We use multiples on 2016e AFFO to arrive at our price targets. As discussed above, Triple Net REITs have already reacted heavily to recent interest rate volatility with multiples falling ~3 turns for most names in the space since interest rates bottomed in late January. Looking at two previous periods of rising rates in and 2013, when multiples compressed by 1-4 turns, leads us to believe that interest rate concerns are largely baked in. As a result, our price targets only bake in modest compression in most cases. However, we do see room for selective multiple compression in the group with O and SIR most at risk. In addition a more steep increase in 10yr yields could result in further multiple contraction. We See Modest Multiple Compression For O & SIR: We see risk for O given its sector leading valuation despite a lower growth profile and less room to move leverage. Additionally, we believe NNN should trade at a modest premium to O rather than the current discount given NNN's better asset quality (see Triple Net Quality Deep Dive)and balance sheet. SIR's very high cost of capital and limited balance sheet drives compression risk as they will likely struggle to find accretive deals, though a dividend yield nearing 10% does offer some support. Exhibit 13: O & SIR Most Likely To See Multiple Compression... Exhibit 14: While STOR Offers The Best Total Returns Source: Thomson Reuters, Morgan Stanley Research Source: Company Data, Morgan Stanley Research 7

8 Exhibit 15: Our Top Pick Is STOR With ~16% Upside To Our Price Target Real Estate Investment Trusts July 23, 2015 Source: Morgan Stanley Research For valuation methodology and risks associated w ith any price targets referenced in this research report, please contact the Client Support Team as follow s: US/Canada ; Hong Kong ; Latin America (U.S.); London +44 (0) ; Singapore ; Sydney +61 (0) ; Tokyo +81 (0) Alternatively you may contact your investment representative or Morgan Stanley Research at 1585 Broadw ay, (Attention : Research Management), New York, NY USA.. 8

9 Risk Reward National Retail Properties (NNN, Overweight, PT $40) Source: Thomson Reuters, Morgan Stanley Research Price Target $40 Bull $45 ~18x Bull 2016e AFFO Base $40 ~16.5x Base 2016e AFFO Bear $33 ~14.5x Bear 2016e AFFO We apply a ~16.5x multiple to our 2016 base case AFFO estimate to arrive at a price target of $40. This multiple is slightly higher than NNN's 5-year average of ~16x and reflects the company's higher investment spread to its cost of capital versus peers as well as balance sheet flexibility. Acquisition volumes exceed guidance and initial yields on investments rise back to ~8%. Occupancy remains steady at ~98% and the company sees 2%+ annual rent bumps due to higher inflation. Shares trade above historical multiple given higher growth prospects. Solid 6%+ AFFO growth in 2015 & 2016 as transaction volume comes in above guidance and cap rates remain attractive given high percentage of relationship deals. Occupancy remains steady at ~98% and the company continues to see ~1.5% annual rent bumps. Cap rate spreads compress modestly but NNN's advantage relative to peers remains intact. Shares trade modestly above 5-year average multiple of ~16x. Acquisition volumes come in lower than expected and cap rate spreads compress as the company relies more heavily on open market transactions. Economic weakness results in occupancy dipping and the company see limited rent growth. Unfavorable environment limits external growth and forces shares to trade at a significant multiple discount to current levels. Why Overweight? Despite NNN's NIG tenant focus, the company's portfolio is slightly better than O's based on our location quality deep dive. We believe this is underappreciated by investors. Assuming interest rates increase late in the year, we believe NNN's balance sheet strength and flexibility as well as tenant relationships should enable the company to achieve higher accretion versus peers. NNN currently trades at discount to O, which we believe should reverse given the above factors. Key Debates Will acquisition volume remain robust in 2015 & 2016 following record levels in recent years and can this offset rising rates? Does NNN's relatively smaller size versus peers reduce or increase its opportunities for external growth? In a rising interest rate environment, who is best equipped to maintain accretion levels? Potential Catalysts Further appreciation of NNN's location quality and potential re-rating results in higher NAV. Higher than anticipated quarterly acquisition volume. Economic growth is relatively bumpy and interest rates remain stable. Risks to Achieving Price Target Rising interest rates result in a bias towards shorter lease term sectors. Increasing competition for non-investment-grade assets could result in less accretive acquisitions. Additional weakness in restaurants leads to financial challenges for some of NNN's tenants. 9

10 Risk Reward Realty Income (O, Underweight, PT $45) Source: Thomson Reuters, Morgan Stanley Research Price Target $45 Bull $52 ~18x Bull 2016e AFFO Base $45 ~16x Base 2016e AFFO Bear $39 ~14.5x Bear 2016e AFFO We apply a ~16.0x multiple to our 2016e AFFO to arrive at our price target of $45. This multiple is slightly below the five-year average of ~17x given risk to current premium valuation and lower growth profile for some peers. Acquisition volumes approach $2.6 billion over the next two years and drive higher earnings growth. Acquisition spreads do not compress. Occupancy remains steady at 99% and the company sees annual rent bumps closer to 2% as asset diversification strategy plays out. Mid-single-digit AFFO growth in 2015 and 2016 as transaction volume comes in at high end of guidance. Occupancy remains steady at 96% and the company continues to see 1-2% annual rent bumps. Cap rate spreads compress somewhat as interest rates begin to rise but acquisition cap rates remain flat. Given more mature growth phase, shares trade below historical valuation levels. Acquisition volume and spreads come under pressure as interest rates rise more than expected but strong demand for assets keeps market cap rates low. Economic weakness results in occupancy dipping and the company sees limited rent growth due to vacancies. Unfavorable environment limits external growth opportunities. Why Underweight? Our UW call is based primarily on a less favorable risk reward relative to its primary peer NNN. O's location quality is somewhat below NNN's despite a higher focus on investment grade tenants. Relatively larger size implies the company will likely have to focus on larger deals / volume ahead of pricing in the near-term. Higher leverage and relatively lower benefit from relationship deals suggest lower accretion than NNN. Key Debates Will acquisition volume remain robust in 2015 & 2016 following record levels in recent years and can this offset rising rates? In a rising interest rate environment who is better equipped to maintain accretion levels? Does O's relatively larger size versus peers increase its opportunities for external growth? Potential Catalysts Acquisition volumes in line with guidance but less accretive. Economic improvement continues and interest rates increase. Risks to Achieving Price Target Low interest rate environment continues favoring longer duration net lease. Additional M&A provides scale and size advantages. Diversification outside of retail provides higher than anticipated organic growth. 10

11 Risk Reward Select Income REIT (SIR, Underweight, PT $20) Source: Thomson Reuters, Morgan Stanley Research Price Target $20 Bull $25 ~10x Bull Case 2016e AFFO Base $20 ~8x Base Case 2016e AFFO Bear $17 ~7x Bear Case 2016e AFFO We apply a ~8x multiple to our 2016e AFFO to arrive at our price target of $20. This multiple is slightly below the three-year average of ~9.5x given higher leverage and limited prospects for accretive external growth. Single-digit AFFO growth in 2015 & 2016 as 10yr yields decline from current levels and transaction volume picks up. Occupancy picks up to 98% and the company sees strong rent bumps, above recent trends. Investor concerns on external management ease given increased visibility into RMR. Low single-digit AFFO growth in 2015 & 2016 as transaction volume near-term is limited. External management concerns remain. Occupancy remains steady at ~96% and the company continues to see rent bumps in line with recent trends. Despite SIR's planned ownership stake in RMR, investors concerns remain and continue to weigh on shares. Slight decline in AFFO growth in 2016 as the 10yr picks up and acquisition spreads decline further. External management concerns remain. Occupancy dips slightly and the company sees lower rent bumps in Hawaii and the mainland. External management remains a key concern. Why Underweight? SIR has the highest cost of capital in our Triple Net coverage, limiting its external growth opportunity set. Investment spreads to its long-term capital are likely to remain negative in our estimate, creating additional pressure on multiples, as ongoing competition from private buyers will keep a lid on cap rates. External management concerns are likely to continue to weigh on shares despite recent management actions. Key Debates Can SIR grow externally given high cost of capital? Does SIR planned ownership of RMR reduce investor concerns? Potential Catalysts Creep up in 10yr yields limiting growth and pressuring multiples. Acquisitions of large assets that may require issuance of equity at a discount to NAV. Lower rent spreads on renewals in the mainland and Hawaii. Risks to Achieving Price Target Decline in 10yr yields and push out of rate increase expectations. Higher than anticipated SS-NOI growth from the mainland. Further actions by management towards internal management. High dividend yield may put a floor on the stock. 11

12 Risk Reward Spirit Realty Capital (SRC, Equal-weight, PT $10.50) Source: Thomson Reuters, Morgan Stanley Research Price Target $10.50 Bull $13.50 ~15x Bull Case 2016e AFFO Base $10.50 ~12x Base Case 2016e AFFO Bear $8 ~9.5x Bear Case 2016e AFFO We apply a ~12x multiple to our 2016e AFFO to arrive at our price target of $ Our multiple is in line with current levels given concerns on growth and strategy communication. SRC is able to reduce Shopko exposure closer to peer average (5% of rents) and execute on a higher growth strategy. Occupancy remains steady at ~99% and the company sees ~2% annual rent bumps due to higher inflation. The company is also seen as a potential beneficiary of industry consolidation and the market ascribes a premium based on that potential. LSD/MSD AFFO growth in 2015 & 2016 as transaction volume comes in line with expectations. Company is able to reduce Shopko exposure under ~10% by early Occupancy remains steady at ~99% and the company continues to see 1-2% annual rent bumps. Solid acquisition volume in 2015 & 2016 helps organically reduce Shopko exposure. Acquisition spreads to cost of capital become less accretive and relatively higher leverage further inhibits growth. Company unable to find buyers for remaining Shopko assets. Economic weakness results in occupancy dipping and the company sees limited same-store rent growth. Company struggles to establish and execute on a clear growth strategy and valuation suffers. Why Equal-weight? We believe SRC is at risk of becoming boxed in given relatively high cost of equity and high leverage. Management has struggled to communicate a clear forward growth strategy. Recent capital transactions provide greater balance sheet flexibility and ability to reduce Shopko concentration. SRC's portfolio quality lags both NNN & O, so some discount is reasonable. Key Debates Will SRC's higher cost of capital limit external growth opportunities? What are the company's Shopko assets worth and how fast can SRC reduce its Shopko concentration? Will rising interest rates negatively impact transaction volume? Potential Catalysts Higher or lower than anticipated quarterly acquisition volume. Reduced exposure to Shopko as the company grows assets or recycles Shopko stores. Economic growth is relatively bumpy and interest rates remain stable. Risks to Achieving Price Target Rising interest rates result in lower acquisition volumes. Increasing competition for non-investment grade assets could result in less accretive acquisitions. Weakness in the discount merchandize category could negatively impact Shopko. Additional M&A provides scale and size advantages to peers. 12

13 Risk Reward Risk-Reward Snapshot: STORE Capital (STOR, Overweight, Price Target $24.50) Why Overweight? STORE is poised to grow its asset base by ~20% annually in the coming years given its strong acquisition team and smaller size than peers. Accretive growth should drive total returns above 15% in 2016 with upside to our estimates. The company's ~ bps acquisition pricing advantage is likely sustainable. STOR's valuation has benefited from its strong management team and consistent message. We believe the current modest valuation gap to NNN & O is reasonable but should not widen further. Source: Thomson Reuters, Morgan Stanley Research Price Target $24.50 Bull $27 ~17.5x Bull Case 2016e AFFO Base $24.50 ~15.5x Base Case 2016e AFFO Bear $18 ~13x Bear Case 2016e AFFO Derived from base case scenario. Our Price Target uses a ~15.5x multiple on our Base Case 2016e AFFO. The ~15.5x multiple ~1 turn below NNN and O. Strong acquisition volume on par with Acquisition volume remains around $1+ billion annually over the next two years at an 8.5% average cap rate. Strong external growth and accretion pushes G&A margins close to 8% in 2016 and allows for per share growth in the LDD range. Our AFFO multiple is based on a one turn premium to NNN & O. Acquisition volume slows in 2016 but maintains relatively robust pace. Acquisition volume slows to $875 million annually after 2015 at an ~8% average cap rate. G&A margins fall below 9% in Our AFFO multiple is based on a one turn discount to NNN & O. External growth slows significantly as the company sees higher competition and cap rate compression. Acquisition volume slows to $675 million annually after 2015 at an average cap rate of 7.5%. Lower accretion forces G&A margins to stay elevated at ~10% and per share growth falls to the MSD range. Key Debates How much external growth can STORE achieve in 2015 & 2016? Can STORE maintain its acquisition pricing advantage over peers? Potential Catalysts Quarterly acquisition pace and pricing on deals. Economic and interest rate environment / expectations. News regarding any major tenant such as the situation surrounding Heald College. Risks to Achieving Price Target Interest rates stay lower for longer or rise sooner than expected. Deal volume falls significantly, driving slower growth and lower efficiency levels. Cap rates continue to compress while financing costs remain the same or increase. Potential secondary offerings from Oaktree. 13

14 Company Financials Exhibit 16: NNN Income Statement Source: Morgan Stanley Research 14

15 Exhibit 17: NNN Balance Sheet & Cash Flow Statement Source: Morgan Stanley Research 15

16 Exhibit 18: O Income Statement Source: Morgan Stanley Research 16

17 Exhibit 19: O Balance Sheet & Cash Flow Statement Source: Morgan Stanley Research 17

18 Exhibit 20: SIR Income Statement Source: Morgan Stanley Research 18

19 Exhibit 21: SIR Balance Sheet & Cash Flow Statement Source: Morgan Stanley Research 19

20 Exhibit 22: SRC Income Statement Source: Morgan Stanley Research 20

21 Exhibit 23: SRC Balance Sheet & Cash Flow Statement Source: Morgan Stanley Research 21

22 Exhibit 24: STOR Income Statement Source: Morgan Stanley Research 22

23 Exhibit 25: STOR Balance Sheet & Cash Flow Statement Source: Morgan Stanley Research Morgan Stanley is acting as financial advisor to a Joint Special Committee of Independent Trustees (the Committee ) of Senior Housing Properties Trust, Hospitality Properties Trust, Select Income REIT, and Government Properties Income Trust (collectively, the REITs ) in connection with the REITs agreement to acquire a combined economic ownership of approximately half of Reit Management & Research LLC, as announced on June 8, The Committee is expected to pay fees to Morgan Stanley for its financial services. Please refer to the notes at the end of this report. 23

24 24

25 Disclosure Section The information and opinions in Morgan Stanley Research were prepared by Morgan Stanley & Co. LLC, and/or Morgan Stanley C.T.V.M. S.A., and/or Morgan Stanley Mexico, Casa de Bolsa, S.A. de C.V., and/or Morgan Stanley Canada Limited. As used in this disclosure section, "Morgan Stanley" includes Morgan Stanley & Co. LLC, Morgan Stanley C.T.V.M. S.A., Morgan Stanley Mexico, Casa de Bolsa, S.A. de C.V., Morgan Stanley Canada Limited and their affiliates as necessary. For important disclosures, stock price charts and equity rating histories regarding companies that are the subject of this report, please see the Morgan Stanley Research Disclosure Website at or contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY, USA. For valuation methodology and risks associated with any price targets referenced in this research report, please contact the Client Support Team as follows: US/Canada ; Hong Kong ; Latin America (U.S.); London +44 (0) ; Singapore ; Sydney +61 (0) ; Tokyo +81 (0) Alternatively you may contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY USA. Analyst Certification The following analysts hereby certify that their views about the companies and their securities discussed in this report are accurately expressed and that they have not received and will not receive direct or indirect compensation in exchange for expressing specific recommendations or views in this report: Vikram Malhotra; Landon Park. Unless otherwise stated, the individuals listed on the cover page of this report are research analysts. Global Research Conflict Management Policy Morgan Stanley Research has been published in accordance with our conflict management policy, which is available at Important US Regulatory Disclosures on Subject Companies The following analyst or strategist (or a household member) owns securities (or related derivatives) in a company that he or she covers or recommends in Morgan Stanley Research: Vikram Malhotra - Macerich Company(common or preferred stock), Prologis, Inc.(common or preferred stock). As of June 30, 2015, Morgan Stanley beneficially owned 1% or more of a class of common equity securities of the following companies covered in Morgan Stanley Research: AvalonBay Communities Inc., BioMed Realty Trust, Inc, Boston Properties, Inc., CBL & Associates Properties, Inc., Columbia Property Trust Inc, Douglas Emmett Inc., Duke Realty Corp., Equity Residential, Essex Property Trust, Inc., Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, Highwoods Properties, Home Properties, Inc., Hudson Pacific Properties, Kimco Realty Corp., Liberty Property Trust, Macerich Company, Mid-America Apartment Communities, Inc., National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Piedmont Office Realty Trust Inc., Prologis, Inc., Public Storage, Regency Centers Corporation, Senior Housing Properties Trust, Simon Property Group, Inc., Spirit Realty Capital, STORE Capital Corp, Urban Edge Properties, Vornado Realty Trust. Within the last 12 months, Morgan Stanley managed or co-managed a public offering (or 144A offering) of securities of American Homes 4 Rent, AvalonBay Communities Inc., Columbia Property Trust Inc, Digital Realty Trust Inc., Duke Realty Corp., Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, Hudson Pacific Properties, Kimco Realty Corp., National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Prologis, Inc., Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, Simon Property Group, Inc., Spirit Realty Capital, STORE Capital Corp, UDR, Inc.. Within the last 12 months, Morgan Stanley has received compensation for investment banking services from American Homes 4 Rent, AvalonBay Communities Inc., Columbia Property Trust Inc, Digital Realty Trust Inc., Duke Realty Corp., Equity Residential, Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, Hudson Pacific Properties, Kimco Realty Corp., Monogram Residential Trust, National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Prologis, Inc., Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, Simon Property Group, Inc., Spirit Realty Capital, STORE Capital Corp, Vornado Realty Trust. In the next 3 months, Morgan Stanley expects to receive or intends to seek compensation for investment banking services from AIMCO, American Assets Trust Inc., American Homes 4 Rent, American Residential Properties Inc, AvalonBay Communities Inc., BioMed Realty Trust, Inc, Boston Properties, Inc., CBL & Associates Properties, Inc., Columbia Property Trust Inc, DDR Corp, Digital Realty Trust Inc., Douglas Emmett Inc., Duke Realty Corp., EastGroup Properties Inc., Equity Residential, Essex Property Trust, Inc., Federal Realty Investment Trust, First Potomac Realty Trust, Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, HFF Inc., Highwoods Properties, Hudson Pacific Properties, Kennedy-Wilson Holdings Inc, Kilroy Realty Corp., Kimco Realty Corp., Liberty Property Trust, Macerich Company, Mid-America Apartment Communities, Inc., Monogram Residential Trust, National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Piedmont Office Realty Trust Inc., Prologis, Inc., Public Storage, Realty Income Corp, Regency Centers Corporation, Select Income REIT, Senior Housing Properties Trust, Simon Property Group, Inc., SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, Taubman Centers, Inc., UDR, Inc., Urban Edge Properties, Vornado Realty Trust. Within the last 12 months, Morgan Stanley has received compensation for products and services other than investment banking services from AIMCO, AvalonBay Communities Inc., Boston Properties, Inc., DDR Corp, Duke Realty Corp., Equity Residential, HCP, Inc., Health Care REIT Incorporated, Kimco Realty Corp., Macerich Company, Piedmont Office Realty Trust Inc., Prologis, Inc., Public Storage, Senior Housing Properties Trust, Simon Property Group, Inc., SL Green Realty Corporation, Spirit Realty Capital, UDR, Inc., Vornado Realty Trust. Within the last 12 months, Morgan Stanley has provided or is providing investment banking services to, or has an investment banking client relationship with, the following company: AIMCO, American Assets Trust Inc., American Homes 4 Rent, American Residential Properties Inc, AvalonBay Communities Inc., BioMed Realty Trust, Inc, Boston Properties, Inc., CBL & Associates Properties, Inc., Columbia Property Trust Inc, DDR Corp, Digital Realty Trust Inc., Douglas Emmett Inc., Duke Realty Corp., EastGroup Properties Inc., Equity Residential, Essex Property Trust, Inc., Federal Realty Investment Trust, First Potomac Realty Trust, Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, HFF Inc., Highwoods Properties, Hudson Pacific Properties, Kennedy-Wilson Holdings Inc, Kilroy Realty Corp., Kimco Realty Corp., Liberty Property Trust, Macerich Company, Mid-America Apartment Communities, Inc., Monogram Residential Trust, National Retail Properties Inc, National Storage Affiliates Trust, Paramount Group Inc., Piedmont Office Realty Trust Inc., Prologis, Inc., Public Storage, Realty Income Corp, Regency Centers Corporation, Select Income REIT, Senior Housing Properties Trust, Simon Property Group, Inc., SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, Taubman Centers, Inc., UDR, Inc., Urban Edge Properties, Vornado Realty Trust. Within the last 12 months, Morgan Stanley has either provided or is providing non-investment banking, securities-related services to and/or in the past has entered into an agreement to provide services or has a client relationship with the following company: AIMCO, AvalonBay Communities Inc., Boston Properties, Inc., CBL & Associates Properties, Inc., DDR Corp, Digital Realty Trust Inc., Douglas Emmett Inc., Duke Realty Corp., Equity Residential, HCP, Inc., Health Care REIT Incorporated, Highwoods Properties, Kennedy-Wilson Holdings Inc, Kimco Realty Corp., Macerich Company, Piedmont Office Realty Trust Inc., Prologis, Inc., Public Storage, Select Income REIT, Senior Housing Properties Trust, Simon Property Group, Inc., SL Green Realty Corporation, Spirit Realty Capital, UDR, Inc., Vornado Realty Trust. Morgan Stanley & Co. LLC makes a market in the securities of AIMCO, American Assets Trust Inc., American Homes 4 Rent, American Residential Properties Inc, AvalonBay Communities Inc., BioMed Realty Trust, Inc, Boston Properties, Inc., CBL & Associates Properties, Inc., DDR Corp, Digital Realty Trust Inc., Douglas Emmett Inc., Duke Realty Corp., EastGroup Properties Inc., Equity Residential, Essex Property Trust, Inc., Extra Space Storage Inc., Federal Realty Investment Trust, First Potomac Realty Trust, Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, HFF Inc., Highwoods Properties, Home Properties, Inc., Hudson Pacific Properties, Kennedy-Wilson Holdings Inc, Kilroy Realty Corp., Kimco Realty Corp., Liberty Property Trust, Macerich Company, Mid-America Apartment Communities, Inc., National Retail Properties Inc, National Storage Affiliates Trust, Piedmont Office Realty Trust Inc., Prologis, Inc., Public Storage, Realty Income Corp, Regency Centers Corporation, Select Income REIT, Senior Housing 25

26 Properties Trust, Simon Property Group, Inc., SL Green Realty Corporation, Spirit Realty Capital, Taubman Centers, Inc., UDR, Inc., Vornado Realty Trust. The equity research analysts or strategists principally responsible for the preparation of Morgan Stanley Research have received compensation based upon various factors, including quality of research, investor client feedback, stock picking, competitive factors, firm revenues and overall investment banking revenues. Morgan Stanley and its affiliates do business that relates to companies/instruments covered in Morgan Stanley Research, including market making, providing liquidity and specialized trading, risk arbitrage and other proprietary trading, fund management, commercial banking, extension of credit, investment services and investment banking. Morgan Stanley sells to and buys from customers the securities/instruments of companies covered in Morgan Stanley Research on a principal basis. Morgan Stanley may have a position in the debt of the Company or instruments discussed in this report. Certain disclosures listed above are also for compliance with applicable regulations in non-us jurisdictions. STOCK RATINGS Morgan Stanley uses a relative rating system using terms such as Overweight, Equal-weight, Not-Rated or Underweight (see definitions below). Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold and sell. Investors should carefully read the definitions of all ratings used in Morgan Stanley Research. In addition, since Morgan Stanley Research contains more complete information concerning the analyst's views, investors should carefully read Morgan Stanley Research, in its entirety, and not infer the contents from the rating alone. In any case, ratings (or research) should not be used or relied upon as investment advice. An investor's decision to buy or sell a stock should depend on individual circumstances (such as the investor's existing holdings) and other considerations. Global Stock Ratings Distribution (as of June 30, 2015) For disclosure purposes only (in accordance with NASD and NYSE requirements), we include the category headings of Buy, Hold, and Sell alongside our ratings of Overweight, Equal-weight, Not-Rated and Underweight. Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold, and sell but represent recommended relative weightings (see definitions below). To satisfy regulatory requirements, we correspond Overweight, our most positive stock rating, with a buy recommendation; we correspond Equal-weight and Not-Rated to hold and Underweight to sell recommendations, respectively. COVERAGE UNIVERSE INVESTMENT BANKING CLIENTS (IBC) STOCK RATING CATEGORY COUNT % OF TOTAL COUNT % OF TOTAL IBC % OF RATING CATEGORY Overweight/Buy % % 27% Equal-weight/Hold % % 23% Not-Rated/Hold 93 3% 9 1% 10% Underweight/Sell % 79 11% 13% TOTAL 3, Data include common stock and ADRs currently assigned ratings. Investment Banking Clients are companies from whom Morgan Stanley received investment banking compensation in the last 12 months. Analyst Stock Ratings Overweight (O). The stock's total return is expected to exceed the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Equal-weight (E). The stock's total return is expected to be in line with the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Not-Rated (NR). Currently the analyst does not have adequate conviction about the stock's total return relative to the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Underweight (U). The stock's total return is expected to be below the average total return of the analyst's industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next months. Unless otherwise specified, the time frame for price targets included in Morgan Stanley Research is 12 to 18 months. Analyst Industry Views Attractive (A): The analyst expects the performance of his or her industry coverage universe over the next months to be attractive vs. the relevant broad market benchmark, as indicated below. In-Line (I): The analyst expects the performance of his or her industry coverage universe over the next months to be in line with the relevant broad market benchmark, as indicated below. Cautious (C): The analyst views the performance of his or her industry coverage universe over the next months with caution vs. the relevant broad market benchmark, as indicated below. Benchmarks for each region are as follows: North America - S&P 500; Latin America - relevant MSCI country index or MSCI Latin America Index; Europe - MSCI Europe; Japan - TOPIX; Asia - relevant MSCI country index or MSCI sub-regional index or MSCI AC Asia Pacific ex Japan Index. Stock Price, Price Target and Rating History (See Rating Definitions) 26

27 27

28 28

29 Important Disclosures for Morgan Stanley Smith Barney LLC Customers Important disclosures regarding the relationship between the companies that are the subject of Morgan Stanley Research and Morgan Stanley Smith Barney LLC or Morgan Stanley or any of their affiliates, are available on the Morgan Stanley Wealth Management disclosure website at For Morgan Stanley specific disclosures, you may refer to Each Morgan Stanley Equity Research report is reviewed and approved on behalf of Morgan Stanley Smith Barney LLC. This review and approval is conducted by the same person who reviews the Equity Research report on behalf of Morgan Stanley. This could create a conflict of interest. Other Important Disclosures Morgan Stanley & Co. International PLC and its affiliates have a significant financial interest in the debt securities of AIMCO, AvalonBay Communities Inc., Boston Properties, Inc., DDR Corp, Extra Space Storage Inc., Federal Realty Investment Trust, Government Properties Income Trust, HCP, Inc., Health Care REIT Incorporated, Highwoods Properties, Kimco Realty Corp., National Retail Properties Inc, Public Storage, Realty Income Corp, Select Income REIT, Senior Housing Properties Trust, SL Green Realty Corporation, Spirit Realty Capital, STORE Capital Corp, UDR, Inc.. Morgan Stanley is not acting as a municipal advisor and the opinions or views contained herein are not intended to be, and do not constitute, advice within the meaning of Section 975 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Morgan Stanley produces an equity research product called a "Tactical Idea." Views contained in a "Tactical Idea" on a particular stock may be contrary to the recommendations or views expressed in research on the same stock. This may be the result of differing time horizons, methodologies, market events, or other factors. For all research available on a particular stock, please contact your sales representative or go to Matrix at Morgan Stanley Research is provided to our clients through our proprietary research portal on Matrix and also distributed electronically by Morgan Stanley to clients. Certain, but not all, Morgan Stanley Research products are also made available to clients through third-party vendors or redistributed to clients through alternate electronic means as a convenience. For access to all available Morgan Stanley Research, please contact your sales representative or go to Matrix at Any access and/or use of Morgan Stanley Research is subject to Morgan Stanley's Terms of Use ( By accessing and/or using Morgan Stanley Research, you are indicating that you have read and agree to be bound by our Terms of Use ( In addition you consent to Morgan Stanley processing your personal data and using cookies in accordance with our Privacy Policy and our Global Cookies Policy ( including for the purposes of setting your preferences and to collect readership data so that we can deliver better and more personalized service and products to you. To find out more information about how Morgan Stanley processes personal data, how we use cookies and how to reject cookies see our Privacy Policy and our Global Cookies Policy ( If you do not agree to our Terms of Use and/or if you do not wish to provide your consent to Morgan Stanley processing your personal data or using cookies please do not access our research. Morgan Stanley Research does not provide individually tailored investment advice. Morgan Stanley Research has been prepared without regard to the circumstances and objectives of those who receive it. Morgan Stanley recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of a financial adviser. The appropriateness of an investment or strategy will depend on an investor's circumstances and objectives. The securities, instruments, or strategies discussed in Morgan Stanley Research may not be suitable for all investors, and certain investors may not be eligible to purchase or participate in some or all of them. Morgan Stanley Research is not an offer to buy or sell or the solicitation of an offer to buy or sell any security/instrument or to participate in any particular trading strategy. The value of and income from your investments may vary because of changes in interest rates, foreign exchange rates, default rates, prepayment rates, securities/instruments prices, market indexes, operational or financial conditions of companies or other factors. There may be time limitations on the exercise of options or other rights in securities/instruments transactions. Past performance is not necessarily a guide to future performance. Estimates of future performance are based on assumptions that may not be realized. If provided, and unless otherwise stated, the closing price on the cover page is that of the primary exchange for the 29