AMH: Sustained Occupancy And Earnings Strength Will Drive Share Performance Ahead

Key Takeaways

• Analysts expect American Homes 4 Rent to keep leaning on its integrated development and operating platform, including build to rent communities and portfolio consolidations, to grow cash flows within the current regulatory framework and cost of capital constraints.
• The main thing that has to go right is management continuing to control construction and operating costs while executing on moderated on balance sheet development, joint ventures and MLS funded dispositions, so that development yields and portfolio acquisitions remain economically attractive.
• The current share price and analyst targets, which cluster in the low to high US$30s, imply that the market values American Homes 4 Rent at a discount to what bullish investors see as its underlying cash generation and future portfolio growth potential.

What American Homes 4 Rent Does

American Homes 4 Rent owns, develops, renovates, leases and manages single family homes as rental properties for residents across the Southeast, Midwest, Southwest and Mountain West regions of the United States.

Catalysts

What are the underlying business or industry changes driving this perspective?

• American Homes 4 Rent continues to lean on its moderated in house development program, where recent projects have been delivered at initial yields in the mid 5% area and new land deals are underwriting at yields in the 6% area. This could support future revenue and funds from operations growth as more newly built homes enter the portfolio (revenue and earnings).
• Management is using its lease expiration management initiative to concentrate roughly two thirds of expirations in the first half of the year and one third in the back half. This is helping maintain occupancy around the high 95% area and may underpin steadier rental revenue and same home NOI over time (revenue and net margins).
• Portfolio optimization through MLS dispositions at cap rates in the 4% area, combined with recycling proceeds into higher yielding on balance sheet and joint venture development, creates a spread between sale yields and development yields. This can support higher net operating income and funds from operations per share (net margins and earnings).
• Clarity from the Road to Housing Act on the ability to pursue internal development and portfolio consolidations, together with restrictions on MLS buying for many large institutional investors, may increase future opportunities for American Homes 4 Rent to acquire and integrate third party portfolios. This could add homes to its platform and support cash flow growth once those assets are brought up to its operating margin levels (revenue and earnings).
• Active use of joint venture capital, including an evergreen structure where American Homes 4 Rent holds a 20% interest and crystallizes promotes by increasing its capital account instead of taking cash, allows the company to grow its build to rent pipeline without relying solely on its own balance sheet. This can widen the base of income producing homes and support future funds from operations (earnings).

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming American Homes 4 Rent's revenue will grow by 3.8% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 24.7% today to 10.4% in 3 years time.
• Analysts expect earnings to reach $218.8 million (and earnings per share of $0.78) by about September 2029, down from $463.5 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $263.9 million in earnings, and the most bearish expecting $193.2 million.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 68.6x on those 2029 earnings, up from 24.1x today. This future PE is greater than the current PE for the US Residential REITs industry at 41.9x.
• Analysts expect the number of shares outstanding to decline by 3.04% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.24%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• If higher for longer interest rates persist, as some analysts now build into their forecasts, refinancing and acquisition costs for American Homes 4 Rent could stay elevated and limit the economic attractiveness of new development and portfolio consolidations, which would put pressure on net margins and funds from operations based earnings.
• If the detailed rule writing that follows the Road to Housing Act results in slower than expected portfolio transaction activity or keeps the bid ask spread wide between buyers and sellers, the company may struggle to execute on the portfolio consolidation opportunities that many investors expect, which would reduce the scope for incremental revenue and earnings growth from this channel.
• If supply in key single family rental markets such as Texas, Florida and Phoenix does not continue to ease as management currently observes and instead remains high, American Homes 4 Rent could face weaker new lease rent spreads or higher vacancies in those markets, which would weigh on rental revenue and same home net operating income, and in turn on overall earnings.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of $37.11 for American Homes 4 Rent based on their expectations of its future earnings growth, profit margins and other risk factors.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $42.0, and the most bearish reporting a price target of just $31.0.
• In order for you to agree with the analysts, you'd need to believe that by 2029, revenues will be $2.1 billion, earnings will come to $218.8 million, and it would be trading on a PE ratio of 68.6x, assuming you use a discount rate of 7.2%.
• Given the current share price of $31.02, the analyst price target of $37.11 is 16.4% higher. Despite analysts expecting the underlying business to decline, they seem to believe it's more valuable than what the market thinks.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.