How much will refinancing its debt cut a REIT's AFFO per share?

A five-year maturity ladder rolled tranche by tranche, and the refinancing rate at which the dividend is no longer covered.

Julian R. Sterling · from REIT Analysis and Valuation

Take each tranche of the debt maturity ladder, multiply the amount by the gap between its coupon and the refinancing rate, and deduct the cumulative extra interest from AFFO as each tranche rolls. For an illustrative REIT with $2,400 million of debt at a 3.40 per cent average coupon, refinancing everything at 5.6 per cent adds $52.8 million of interest and cuts AFFO per share by 20.3 per cent, from $1.30 to $1.04, enough to take the payout ratio from 80.0 to 100.4 per cent of AFFO.

Worked in full in REIT Analysis and Valuation by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →

Why the maturity ladder, not the average rate

Rising interest rates reach a REIT through two channels. The first is valuation: higher rates push cap rates up and net asset value down, which moves the share price on the day. The second is earnings, and it arrives slowly, one maturity at a time, as debt fixed at a lower coupon is replaced at today's rate. An analyst asked "how much will refinancing cost?" needs the second channel, year by year, because the dividend is set on AFFO and the market will judge the dividend long before the last bond is refinanced. The valuation channel is covered in how much rising interest rates cut a REIT's value.

The assumptions

The REIT is fictional. It has 200 million shares, run-rate AFFO of $260 million, or $1.30 a share, and pays a dividend of $1.04, a payout of 80.0 per cent. Net operating income is $420 million. All of the debt is fixed rate, and none of it amortises. The refinancing rate of 5.6 per cent is an illustrative all-in cost for new unsecured debt, not a market quote.

Debt maturity ladder, $ million.
Maturity	Amount	Share of debt	Coupon	Gap to 5.6%
2027	300	12.5%	2.8%	2.8
2028	450	18.8%	3.0%	2.6
2029	500	20.8%	3.3%	2.3
2030	550	22.9%	3.6%	2.0
2031	600	25.0%	3.9%	1.7
Total	2,400	100%	3.40%	2.20

The weighted average coupon is 3.40 per cent, an interest bill of $81.6 million, and the weighted average maturity is 3.29 years. That short a maturity is what makes the question urgent: within five years every dollar of the cheap debt is gone.

The calculation, step by step

Extra interest on a tranche = amount × (refinancing rate − coupon)

Run-rate AFFO after year t = current AFFO − Σ extra interest on tranches maturing up to t

AFFO per share = run-rate AFFO / shares; payout = dividend per share / AFFO per share

2027 tranche: 300 × (5.6% − 2.8%) = 8.4. AFFO 260 − 8.4 = 251.6, or $1.26 a share.

Excel, with amounts in B, coupons in C and the new rate in $F$1: =B2*($F$1-C2) in D, a running sum in E, and =($F$2-E2)/$F$3 for AFFO per share.

Run-rate AFFO once each year's maturity is refinanced at 5.6%, $ million.
After	Extra interest	Cumulative	AFFO	AFFO / share	Change	Payout
Today		0.0	260.0	1.30		80.0%
2027	8.4	8.4	251.6	1.26	−3.2%	82.7%
2028	11.7	20.1	239.9	1.20	−7.7%	86.7%
2029	11.5	31.6	228.4	1.14	−12.2%	91.1%
2030	11.0	42.6	217.4	1.09	−16.4%	95.7%
2031	10.2	52.8	207.2	1.04	−20.3%	100.4%

The result

Once the ladder has rolled, the interest bill rises from $81.6 million to $134.4 million, 1.65 times what it was, and AFFO per share falls by $0.26 to $1.04. That is the dividend to the nearest cent, and in fact just short of it. The REIT that looks comfortably covered at an 80.0 per cent payout today is paying out slightly more than all of its AFFO by 2031 with no change in its properties, its tenants or its dividend. The payout crosses 90 per cent in 2029, the year a careful reader of the supplement would start asking about it.

The break-even is worth stating directly. The REIT retains $52.0 million a year after its $208.0 million dividend, so the refinancing rate at which the full roll consumes all of it is 3.40 per cent plus 52.0 / 2,400, or 5.57 per cent. Every 100 basis points on the whole ladder costs $24.0 million, or $0.12 a share.

Run-rate AFFO is a snapshot after each refinancing, holding everything else flat. In practice rents grow. To keep AFFO per share at $1.30, net operating income would have to rise by 12.6 per cent over the five years, about 2.4 per cent a year compounded, before any growth reaches shareholders.

What if: the refinancing rate

Position after the full ladder has rolled.
Refinancing rate	Extra interest	AFFO / share	Change	Payout
4.6%	28.8	1.16	−11.1%	90.0%
5.1%	40.8	1.10	−15.7%	94.9%
5.6%	52.8	1.04	−20.3%	100.4%
6.1%	64.8	0.98	−24.9%	106.6%
6.6%	76.8	0.92	−29.5%	113.5%

Selling assets to repay debt rather than refinancing it does not escape the arithmetic. Repaying the 2027 and 2028 tranches, $750 million, with disposals at an illustrative 6.0 per cent cap rate gives up $45.0 million of NOI to save $21.9 million of interest. With the later tranches still refinanced at 5.6 per cent, AFFO ends at $204.2 million, $1.02 a share, $3.0 million worse than refinancing everything. Deleveraging through sales is dilutive to AFFO whenever the cap rate on what is sold exceeds the refinancing rate it avoids; it may still be the right call for the balance sheet, but it is not a way round the earnings hit.

The common mistakes

Applying the whole rate gap in year one. 2,400 × 2.20 per cent gives the same $52.8 million in the end, but it overstates the 2027 hit 6.3 times and misses the timing that matters for the dividend.
Using the average coupon on a front-loaded ladder. The cheapest debt often matures first, as here, so the early years take the largest gap per dollar.
Forgetting swaps and caps. Floating debt swapped to fixed reprices when the swap expires, not when the loan matures. Put swap expiries on the ladder as if they were maturities.
Judging the payout on FFO. FFO payout looks lower and hides the recurring capital spending the dividend also has to cover; see how to calculate AFFO from FFO.

Takeaway

A REIT's refinancing exposure is a ladder calculation, tranche by tranche: amount times the gap to the new rate, cumulated against AFFO. In this illustrative case it costs 20.3 per cent of AFFO per share and turns an 80.0 per cent payout into 100.4 per cent over five years. The AFFO bridge, the leverage tests and the dividend coverage for the book's own REIT are in the free workbook for this case.

Questions readers ask

How do you calculate a REIT's debt maturity risk?

List every debt tranche and swap expiry by year with its amount and coupon, then compute amount times the gap to an assumed refinancing rate and deduct it cumulatively from AFFO. In the worked case 2,400 million of debt with a 3.29-year weighted maturity loses 52.8 million of AFFO at 5.6 per cent, of which 20.1 million lands in the first two years.

At what refinancing rate does a REIT's dividend stop being covered?

When the extra interest equals the AFFO retained after the dividend. The illustrative REIT retains 52.0 million a year on 2,400 million of debt at 3.40 per cent, so coverage runs out at 3.40 per cent plus 52.0 divided by 2,400, a refinancing rate of 5.57 per cent.

Is selling assets better than refinancing for a REIT's AFFO?

Only if the cap rate on the assets sold is below the cost of new debt. Repaying 750 million of maturities with disposals at an illustrative 6.0 per cent cap rate gives up 45.0 million of NOI to save 21.9 million of interest and leaves AFFO 3.0 million lower than refinancing at 5.6 per cent.

Read the whole case

This article is one calculation from REIT Analysis and Valuation. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.

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Also on this site

How do you calculate AFFO from FFO?Remove non-cash items from FFO, then deduct recurring capex, leasing commissions and TIs. Here FFO of 410 becomes AFFO of 300, and the payout rises to 88.0%.
How much do rising interest rates cut a REIT's value?Through cap rates far more than earnings: 100 bp with half passed to cap rates cuts NAV per share 12.8 per cent, $32.50 to $28.33, but FFO only 3.3 per cent.
How do you calculate a REIT's net debt to EBITDAre?Debt less cash over Nareit EBITDAre: 3,940 over 736 is 5.35x. The same REIT reads 5.13x to 6.16x depending on the EBITDAre and the debt you count.
How do you calculate a REIT's 90% distribution requirement?Take 90% of REIT taxable income excluding net capital gain, not of FFO: here 81.0m, $0.506 a share, only 26.1% of AFFO against a 250.0m dividend.
Can a REIT trading at a discount to NAV still acquire accretively?A REIT still acquires accretively down to a 6.2 per cent NAV discount — 11.6 per cent funded at the target mix. Break-even price $40.32, NAV $42.97.
How do you calculate EPRA NTA, NRV and NDV?Start from IFRS equity and adjust for deferred tax, derivatives, goodwill, purchasers' costs and the debt mark: 20.00 a share becomes 24.95, 21.50 and 20.80.

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