On the Sunny Side of the REITs

06/11/2012 7:45 am EST

Focus: REITS

Carla Pasternak

Editor, The Income Investor

Here is a real estate investment trust that's successfully playing the growing retro trend of hitting the road and traveling the country by recreational vehicle, observes Carla Pasternak of High-Yield Investing.

Sun Communities (SUI), a real estate investment trust, is one of the largest owners of manufactured housing and recreation vehicles (RV) communities, with 162 communities, mostly in the Midwest and southeast US

With a rich yield of close to 6%, well above the average 3% for its REIT peers, Sun is attractively priced for new money.

The trust has paid 63 cents per share since 2005. That annualizes to $2.52 per share, for a yield of 5.8%. For the last few years, about 75% of the distribution was return of capital, which is not taxable in the year received, but reduces your cost base when sold.

The balance was taxable as ordinary income. Given the large portion of non-taxable return of capital, the shares are appropriate for a taxable account.

About 80% of revenue comes from property rentals. Sun leases mobile home lots on a monthly or annual basis, generally adjusting the rates in line with the going market rate.

Sun's communities are not what you might imagine when you think of a trailer park. They are residential communities with paved streets, and may have amenities such as a clubhouse, swimming pool, and tennis courts.

Its business continues to benefit from a weak housing market. As new home sales fell in March by the largest amount in more than a year, demand for Sun's low-cost housing remained strong.

Funds from operations (FFO) per share rose nearly 9% to 89 cents in the first quarter of 2012, from 82 cents a year ago, despite a 12% increase in outstanding shares due to an equity issue in January.

These strong results and continued weakness in the housing market have led analysts to raise their estimates of FFO per share by 2 cents to $3.26 in 2012, and by a penny to $3.52 in 2013, up from $3.13 last year.

At 14 times FFO of $3.07 per share for the trailing 12 months, the shares are trading at a discount to an average 21 times for residential REIT peers and represent good value.

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