Reysas REIT

Company basics:

Founded in Istanbul in 2008, Reysas REIT (IST:RYGYO) builds and leases warehouses to blue-chip tenants. Warehouse occupancy rate is consistently about 99%. Current square footage is approximately 11M square feet and growing, although growth in warehouse footprint is expected to slow due to the difficulty of finding suitable land for large 500,000+ square foot eCommerce warehouses that tenants demand. Many of the warehouses’ roofs now have solar panels installed, with the company’s current installed power of 34.5 MWh expected to reach 50 MWh by 2024. Key tenants include Carrefour, Trendyol, Ikea, Toyota, Mercedes Benz, as well as several logistics companies.

Summary: 

With a forward P/E in the single digits, trading at approximately 60% of the audited valuation of its warehouses, zero net long-term debt by 2024E due to lower near-term capex and upcoming side-project windfalls totaling 20% of the current market cap, Reysas REIT's (Turkish: Reysas Gayrimenkul Yatirim Ortakligi AS) balance sheet has benefitted from a high inflationary environment in Turkey, and is now poised to have zero net debt and inflation-hedged cash inflows that steadily increase as existing 50%-below-market leases are gradually renewed closer to market rates. At a current market cap of $450M, the company appears undervalued based on a closer look at both the balance sheet and income statement.

Balance sheet: 

The company’s primary assets, comprising about 80% of its NAV, are its warehouses. These are held on the balance sheet as “Level 2” assets, and are valued annually by a third-party valuation company before being signed-off by an auditor and green-lighted to be reflected directly in the balance sheet. Total land and building assets are valued at $712.6M, with long-term debt of ~$84M. However, this Level 2 valuation process poses inherent estimation, uncertainty, and timing differences. If we dig into the valuation reports (published by the company), we find that it is highly likely that what is currently held on the balance sheet conservatively understates the current value of their Level 2 assets.

An Undervalued Warehouse

One prime example of an undervalued asset is its new 550,000 square foot warehouse in Kocaeli, just outside of Istanbul. This single warehouse will constitute approximately ~5% of the total square footage. How is this warehouse valued & held on the balance sheet at 12/31/2022?

In the property’s valuation report, an income-statement analysis estimated annual rent revenue of $3.9M, and arrived at a valuation of $43.2M. This income analysis was not ultimately used for the year-end valuation. What is held on the balance sheet at 12/31/2022 is only the land portion of the valuation: $11.4M. Reasonable given that the building was still under early construction at year-end.

How accurate was the discarded income statement analysis, i.e. what can be roughly expected of this property’s 12/31/2023 valuation assuming an approximately similar valuation methodology once the warehouse is delivered? Interestingly, this warehouse already has published lease agreements, so we can compare the income used in the analysis to actuals. Published lease data totals about $6.4M/year. If we apply the same roughly 11x multiplier that was used in the valuation report, this property would be valued at about $70M at 12/31/2023. This is 62% greater than the 12/31/2022 income-based valuation, and more than 6x the $11.4M that’s currently presented on the balance sheet. Some basic tenant and lease information of this warehouse is given below. 

Published lease information for the new 550,000 square foot warehouse:

1. Mercedes Benz: $2.6M/year for the first 5 years, 11 year, 161,000 square feet (30% of the warehouse). $16/sqft. Denominated in Euro, inflation indexed annually using the German PPI + CPI average. After year 5, Mercedes has an “expansion” option in the agreement, presumably to take up an additional 20% of the warehouse. This would bring the total lease term to 11 years, with years 6-11 yielding $3.8M/year.

2. Honda, Hepsiburada (eCommerce), and Dogruer Logistics. $3.8M/year, 389,000 square feet (70% of the warehouse). $10/sqft. Denominated $2.2M in Turkish Lira and $1.6M in Euro. Leases range from 1-5 years, and are inflation indexed annually in their respective currencies’ PPI + CPI average. Management likely chose these shorter lease terms in order to accommodate the probable scenario of Mercedes expanding into some of this space after year 5.

Importantly, 66% of these revenues are denominated in Euro and are therefore not subject to the high inflation of the Turkish Lira. On 9/6/2023, the company completed, delivered, and started collecting rental income from Mercedes on the first 30% of this warehouse at $16/sqft. The remaining 70% is planned to be delivered on 10/1/2023. This warehouse will increase FY24 operating income by about 10-15%.

Income statement:

Pricing Power in Core Operations

FY23 operating income will be, ballpark, $40M on revenues of about $45M. Assuming a total of 11M square feet is rented, this gives an annual rent per square foot of approximately $4. Based on this rate, there appears to be significant upside pricing power to simply match current market rates. Below is a summary of different lease rates per square foot/sources:

Latest Mercedes lease: $16

Turkish warehouse average (1H23 Cushman & Wakefield report): ~$8

Reysas’ average: $4

The main culprit for the below-market lease rate in dollar terms is the high inflation of the Turkish Lira (TL). In 2018, the Turkish government mandated that unless the lessee company is at least 50% owned outside of Turkey, leases must be TL-denominated. This explains, for example, why the Mercedes and Honda (foreign-owned) leases are in Euro, while the Hepsiburada and Dogruer Logistics (Turkish-owned) leases are in TL. While leases are inflation indexed, the official Turkish inflation figures appear to understate real inflation. As inflation has been unusually high since 2018, these long-term TL-denominated leases have gradually lagged their original rates in dollar terms. For instance, in 2015, Reysas’ anchor tenant, CarrefourSA, signed a USD-denominated lease at $8/sqft with two, 1-year extension options upon expiration. This original, USD-denominated lease was converted into Turkish Lira in 2018 as mandated, and began to gradually lose its original value. In March 2023, CarrefourSA exercised its last 1-year extension option of this same warehouse at an eroded rate of $5.20/sqft. 

The discrepancy between Reysas’ average rate and market rate implies about an 8-15% revenue CAGR for the next 5-10 years as long-term, stale leases expire and are gradually renewed closer to market rates. This top-line growth assumes no additional warehouses are built, which is unlikely given market demand.

Buried "Side Projects" Windfall of ~$90M

Buried in past company notifications, and hardly emphasized in investor material, the company discloses understatedly lucrative side projects. A neat and roughly-right summary of the economic reality appears to be that three opportunistic side-projects will yield $90M in revenues with extremely high profit margins. The timing of the windfalls may be split evenly between $30M in 2023, 2024, and 2025 respectively. Research, sources, assumptions, and details of the projects are given below, though the exact amount of these windfalls will also depend on market prices at the time of sale.

Projects 1 and 2

Project 1 “Muhit”:

Units: 95 apartments, 4 shops

Completion: units becoming available now

Total saleable square footage: 129,000

Price per square foot: $250

Total windfall: $32M

Project 2 “Melisia”:

Units: 100 apartments, 7 shops

Completion: 30%

Total saleable square footage: 129,000 (best estimate, but uncertain)

Price per square foot: $250

Total windfall: $32M

The key timeline of the projects seems to be as follows (skip to the summary below if the details are not of interest):

5/4/2016: The company enters into an agreement with local apartment developer Sur Yapi to build high-end apartments & shops on two parcels of land, 2.2 miles apart from each other, in the Sancaktepe district of the province of Istanbul. 

4/6/2021: Reysas deems the market rates to be low, and amends the agreement from the original 40% revenue-share, to 43% property ownership, with a downside-protection clause that states that the “counterparty” (presumably the developer Sur Yapi) will pay rent to Reysas in case of delay of the agreed-upon delivery dates of 2021-2022.

4/4/2022: There’s officially a delay: “We have been informed that it will be delivered by the end of 2023”. Reysas announces that the “penal clauses will be implemented” in May 2022.

8/23/2022: Regarding project 2, Reysas announces that the contract “...was terminated by mutual agreement upon the necessity seen by our Company”. Reysas hires their own construction company, and bumps their ownership from 43% to 100% of this project’s 100 apartments and 7 shops. The deals appear to have been structured such that Reysas contributed their land, partnered with a developer who constructed the buildings, and the finished buildings were to be split at an agreed upon rate. With the original developer out of the picture, and Reysas now covering the construction costs, they retain 100% ownership of this project. Translated imperfectly: “100 residences and 7 shops, which are planned to be completed in the second half of 2023, will be built on the related project. At the end of the project, Reysas GYO, which is the sole owner of the project to sell or lease the relevant real estates…”

That’s project 2: 100 apartment units and 7 shops, 30% completed, to be owned free and clear upon completion. Project 1, still developed with the original partner Sur Yapi, consists of 217 apartments and 12 shops according to the project’s website. It appears to be about 43% owned by Reysas - leaving them with 95 apartments and 4 shops per their company announcements.

So we know the ownership of the units as well as the completion rates of the two projects. But exactly how much saleable square footage is there? And what will these sell for? Luckily there’s a clue buried within the REIT parent company’s going concern section of the FY22 financial statements. Per the financials, “The Group plans to sell the 12,000 m2 area of the Sur Yapi Muhit Project [Project 1]...management aims to generate approximately 600M TL from this sale.” Adjusting for currency differences and converting to square feet, this would put the price per square foot at $246. 

As an additional source for a sanity check, we can now see these units for sale on Turkish real estate websites. For instance, there is a 796 square foot apartment unit for sale for $202,000, implying a price per square foot of $253. This is in line with management’s announcement. If these assumptions prove roughly right, there may be 2H23 revenues of over $30M from project 1. (As one more sanity check, according to the project website, the units are between 730 and 5,200 square feet each. Reysas’ cited square footage of 129,000 split into 95 units implies a square foot per unit of about 1,350, which seems reasonable).

Ultimately, the upcoming 2H23 income statements and perhaps public real-estate sale data will reveal the final cash generation for project 1. But approximately $30M seems likely.

Project 2 is only 30% complete per the 1H23 investor report. There are a similar number of apartments and shops, and it is 2.2 miles from project 1. The total square footage of project 2 is actually 229,000, close to double the 129,000 ft2 cited in project 1. But according to project 2’s valuation report, 100,000 of this square footage is “common area”. So if we ignore that area, and assume similar prices and saleable square footage to project 1, this would provide another windfall north of $30M in approximately 2025.

Project 3:

Additionally, there is a separate 175,000 ft2 “auto mall” project consisting of 96 shops in the capital of Ankara, which per the 1H23 investor report, is 70% complete. On 12/27/2021, the company announced the project and stated that it is planned to be sold for $27M (adjusting for currency translation differences) when complete. This project is held on the 12/31/2022 balance sheet at $5.8M. Given that construction started in 2022, and it is 70% complete, an FY24 completion seems likely.

Summary of these 3 windfalls:

There is undoubtedly some uncertainty here. However, it does appear that beginning now and trickling through 2025, Reysas will have 195 apartments and 107 shops from these opportunistic side projects. Total impending revenue windfall from these three projects alone appears to be about $90M, or 20% of the current market cap. Collectively, these parcels are held on the 12/31/2022 balance sheet at $30.1M.

Comparison of the above to analyst coverage:

The first analyst report of the company was released by local Turkish company, Is Yatirim, in July 2023. For the one-off projects listed above, the analyst report forecasts $52M cash generation through 2025. This appears low based on company reports, but again, we’ll look to the income statements for the final verdict.

On the balance sheet side, the analyst report assumes a 2024E NAV of about $1B, then applies a 40% discount-to-NAV to arrive at a valuation of $632M. This assumed discount to NAV might be more of an accident of market price history than an etched-in-stone economic inevitability. Nonetheless, at a current market cap of $450M, this approach therefore implies a 40% upside.

Management:

Founders believe the company is undervalued by the market:

Management has consistently purchased shares in the open market at any market price. On 12/17/2021, the company announced that the founders, a father-son duo, have never sold any shares since the IPO in 2010. Between 11/7/22 to present, there have been 10 open market purchase transactions by the founding son, at market caps spanning $135M on 9/23/2022 to $420M on 8/24/2023. The son now owns 8.36%, up from 7.7% at the end of 2021. The son was purchasing shares in the open market well before these dates, but readily available data goes back 1 year.

The founders collectively own 30% of the parent company, Reysas Logistics (IST:RYSAS), which owns 61.94% of Reysas REIT (IST:RYGYO).

Management appears unusually capable, but now poses minimal downside risk:

The land has been selected and purchased. The construction of key projects is nearing completion. The tenants pose low counterparty risk and provide sticky revenues. The remaining useful lives of the warehouses are in the decades. Net debt is on its way to zero. With a total employee headcount of just 11, the success of these assets is increasingly decoupled from ongoing managerial decision making. While the company will remain in the hands of its savvy founders, ages 62 and 38, for the foreseeable future, its score on the Buffett test has never been higher (if needed): "I try to invest in businesses that are so wonderful that an idiot could run them. Because sooner or later, one will".

Upcoming Capital Allocation:

The company has about 15 vacant parcels of land, with a few tentative plans (construction not started) on their reports or company website listed below. CEO Durmus Doven has stated in a Bloomberg interview that they have massive demand from new and existing tenants requesting large warehouses. The company has been unable to find and purchase suitable land to meet this demand. If they do so, that would be an obvious choice for deploying excess cash. However, due to the low debt and increasing cash flow generation coming up, as well as the cash needs of the parent company (Reysas Logistics) to expand its logistics operations, it seems likely that management will implement a dividend in 2024/2025. 

Future Projects, uncertain timing:

1. 500,000 ft2 warehouse in Ankara

2. 430,000 ft2 office park in Istanbul

3. 376,000 ft2 warehouse in Adana

4. 215,000 ft2 warehouse in Kocaeli

5. 150,000 ft2, 600-bed student dorm in Kastamonu

6. Increasing installed solar capacity from 34.5 MWh to 50 MWh

Macro considerations:

Turkey’s proximity to major markets, free and open trade networks with Europe, and the macro trend of “nearshoring” are tailwinds for its warehousing and logistics industry. Competition in the Turkish warehousing industry remains slim (total warehouse deliveries in 1H23 amounted to 710,000 ft2, whereas Reysas alone is expected to deliver 743,000 ft2 in 2H23). 

Reysas REIT is antifragile in an inflationary environment and robust in a stable environment. 40+% inflation in Turkey has yet to subside, but immediately after being reelected, president Erdogan made two key appointments: Mehmet Simsek, Minister of treasury and finance, and Hafize Gaye Erkan, Governor of the central bank and former First Republic Bank co-CEO and President. Since these appointments, interest rates have been hiked from 8.5% to 25% and the country appears to be returning towards more conventional economic policy. Simsek has recently announced: “We will do whatever is necessary (monetary tightening, credit policy and incomes policies) to control inflation and then reduce it…we are absolutely determined to fight inflation.” President Erdogan seems to be on board as well, recently stating that he hopes inflation will be restored back to single-digits in the medium-term. 

The timing of this rise and fall of inflation may prove to be a fortunate tailwind for Reysas. Having ridden the wave of inflation by expanding its footprint and deleveraging at favorable rates, Reysas now stands to benefit from lower inflation as its TL-denominated leases would better hold their value over time.

A glimpse at January 2025:

Taking all this into consideration, a picture of January 2025 begins to emerge: an industrial REIT with 99% occupancy consisting of blue chip tenants, pricing power, green power generation, minimal debt, and NAV north of $1B. Demand for new warehouses is high. New leases are commanding record rents. An opportunistic founding management team and strong balance sheet allows for organic growth. Sticky, growing earnings of ~$45M pave the way for a dividend. What is such a company worth?

Valuation:

Valuation can readily be looked at in two different ways: (1) peers’ market multiples and (2) comparable recent transactions. In both cases, US companies are used as comparisons and approximate valuation ranges are given. Further adjustments may then be applied as seen fit. 

(1) Peers’ market multiples:

Prologis (US):

P/B: 2x

P/E: 33x

First Industrial Realty Trust (US):

P/B: 2.7x

P/E: 21x

Compared to what Reysas REIT would trade at in January 2025 assuming its current market cap of $450M:

Reysas REIT (TR):

P/B: .45x

P/E: 8-12x

Valuation range assuming a 20-25 P/E: $900M - $1.1B

(2) Comparable recent transaction:

On 10/3/2022, Prologis acquired Duke Realty, a US industrial warehouse REIT, for $26B including the assumption of debt. According to their last 10-K, Duke Realty had 163M rentable square footage. This transaction was therefore about $160 per rentable square foot. However, not all square footage is equal. Duke’s average rent per square foot of industrial space was $5.77. Reysas REIT’s is about $4.00. Both companies appear to have similarly below market and gradually increasing rates, so no adjustment will be made for that. However, adjusting for both the difference in square footage and difference in rent per square foot, Reysas’ implied private transaction value per rentable square foot is $111. Note that Duke’s “in service square footage” was 140M, which would imply a higher per-square-foot price and skew the valuation upward. Using more approximate rent per square foot figures would skew the valuation slightly downward. A range is given below:

Valuation range using a comparable recent transaction: $1.1B - $1.4B

Tail risk exposure:

The most valuable, and highest square footage, properties are concentrated mostly in and around Istanbul. A black swan earthquake in the area may cause material damage, as the properties are insured only up to $164M, or about 1/4 of their book value at year-end. There is at least some precedent for how their properties will hold up. Their warehouses in Adana were in a moderate-to-severe damage zone of the February 2023, 7.8 magnitude quake. Only some racks in the warehouses toppled over. The properties were not damaged.

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All the best,

Benji Sanderson

benji.g.sanderson@gmail.com