On Monday, Wolfe Research upgraded shares of Hudson Pacific Properties (NYSE:HPP), moving the rating from Peer Perform to Outperform. The firm set a new price target of $8.40 for the real estate investment trust. The upgrade comes despite acknowledging challenges within the office sector, including potential declines in occupancies and difficulties in rent markets.
Wolfe Research noted that Hudson (NYSE:HUD) Pacific is facing a near-term decline in office operating income due to several key lease expirations and moveouts, including those from Block in September 2023, along with WeWork's lease rejections amid ongoing bankruptcy. The company is also preparing for the departure of Nutanix (NASDAQ:NTNX) in 2024, and Uber (NYSE:UBER) and Google (NASDAQ:GOOGL) in 2025. Additionally, Hudson Pacific recently faced covenant challenges but has since amended its credit facility.
Despite these challenges, Wolfe Research predicts that Hudson Pacific has already experienced its lowest earnings in 2023. The firm projects a 15% compound annual growth rate (CAGR) in funds from operations per share (FFOPS) for 2024-2025. This growth expectation is supported by the anticipated recovery of the studio business, which will help offset the headwinds faced by the office sector.
The firm also pointed out that Hudson Pacific has a high in-place cost of debt, but recent asset sales have lessened the company's exposure to floating rate debt and near-term debt maturities. The analysis does not assume general and administrative (G&A) savings; however, G&A costs are seen as a potential stabilizer tied to the company's stock performance.
For valuation purposes, Hudson Pacific is currently trading at 6.1 times the firm's 2024 FFOPS estimate. The implied capitalization rate for 2025 takes into account a lower office operating income but includes a recovery in the studio segment, resulting in a 10.2% cap rate. This is compared to the average cap rate of 8.4% across Wolfe Research's office sector coverage.
The firm believes that the current trading price of Hudson Pacific offers investors compensation for the perceived high level of risk, justifying the upgrade to Outperform. The new price target of $8.40 is based on the assumption that Hudson Pacific's discount to the firm's coverage on 2025 earnings will improve, but will still remain below its historical discount to both the firm's real estate investment trust (REIT) coverage and the office sector overall.
Wolfe Research acknowledges the wide range of possible earnings outcomes, which has led to a 39% reduction in their 2024 earnings estimate over the past year, but believes the current share price has exceeded the appropriate discount.
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