Question

Case Study: Real Estate Investment Trust (REIT)

You have been presented with the following set of financial statements for the Lynn Associates Trust (LAT), a REIT that is about to make an initial stock offering to the public. This REIT specializes in the acquisition and management of regional shopping centers. Your firm, Blue Street Advisors (BSA), is an investment management company that is considering the purchase of LAT shares. You have been asked to prepare a financial analysis of the REIT.

Operating Statement Summary

Net Revenue                                                              $  50,000,000

Less:

            Operating expenses                                             20,000,000

            Depreciation and amortization                           11,000,000

            General and administrative expenses                   3,000,000

            Management expense                                          1,500,000

Total Expenses                                                               35,500,000  

Income from operations                                                  14,500,000

Less:

            Interest Expense                                                   3,200,000

Net Income (loss)                                                      $11,300,000

Balance Sheet Summary

Assets

Cash                                                                            $ 25,750,000

Rents receivable                                                              1,250,000

Properties @ cost                                                        350,000,000

            Less: Accumulated depreciation                    225,000,000

Properties - net                                                            125,000,000                           

Total net assets                                                         $152,000,000

Liabilities

Short term                                                                   $   6,000,000

Mortgage debt                                                                40,000,000   

            Total                                                                   46,000,000

Shareholder equity                                                     $106,000,000

Total liabilities and equity                                      $152,000,000

Analysis:

1. Develop a set of financial ratios that will provide Blue Street Advisors (BSA) with useful information in the evaluation and comparison of Lynn Associates Trust (LAT) with other REITs.

2. Should BSA purchase LAT shares?

Answer 1

1.)

Set of financial ratios that will provide Blue Street Advisors (BSA) with useful information in the evaluation and comparison of Lynn Associates Trust (LAT) with other REITs were as follows:

a.) Return on Equity

ROE = Net Income / Total Equity

= 11,300,000/106,000,000

= 11%

b.) Return on Assets

ROA = Net Income / Total Assets

= 11,300,000/152,000,000

= 7%

c.) Profit Margin

Profit Margin = Net Income / Revenue

= 11,300,000/ 50,000,000

= 23%

d.) Debt to Equity ratio

Debt to Equity = total debt/total equity

= 46,000,000/106,000,000

= .43

e.) Debt Service Coverage ratio

DSCR = Net Operating Income / Total debt service

Net Operating Income = $14,500,000

Total debt service = $9,200,000 (3,200,000 + 6,000,000)

Therefore,

DSCR = 14,500,000/ 9,200,000

= 1.58 (good)

2.) Yes, BSA should purchase LAT shares because the Lynn Associates Trust have a profit margin of 23%. Which indicates the good profitability of the LAT.