How to Invest in Real Estate The Conservative Way
As Investing Daily’s Jim Fink recently wrote in U.S. Housing Market Has Not Just Bottomed, the real-estate sector is finally showing signs of life after having been one of the primary constraints on U.S. economic growth for several years.
While real estate is still a high-risk play, particularly as the U.S. economy remains weak, the current market environment offers attractive entry points for more conservative property plays that are “off the beaten path” in tech and finance. We’re not talking about homebuilders, folks!
The Tech Play
Ellie Mae (NYSE: ELLI) operates one of the largest electronic mortgage origination networks in the US, providing software to the residential mortgage industry that’s geared to simplify processes.
The company’s main software product is its Encompass loan origination platform, which can perform a variety of functions from document and compliance management to income verification and customer relationship management.
Although customers have the option to license the entire platform, that can be an expensive proposition. Because Ellie Mae caters primarily to small- and mid-sized operations that can’t always make that kind of investment, it recently began offering Encompass on a “Software as a Service” (SaaS) basis, whereby the software is provided to users via the Internet.
The flexibility provided by SaaS has enabled the company to make significant headway with smaller operations over the past couple years, boosting Encompass to nearly 30,000 users, while actually increasing revenue per user by 77 percent.
SaaS revenue increased 137 percent year over year to $8.4 million, or 40 percent of total company revenue. The remainder of Ellie Mae’s revenue comes from its mortgage origination network that connects originators, underwriters and investors. Currently about 59,000 industry professionals are part of the Ellie Mae network, with the company getting paid on a per-transaction basis.
Since going public in 2008, the company’s earnings per share (EPS) have accelerated substantially, growing from just 5 cents in 2010 to 24 cents last year. EPS is forecasted to reach 44 cents this year and 62 cents next year. Although a fairly young company, Ellie Mae already has almost $30 million in cash on its balance sheet with solid cash flows and no debt whatsoever.
The company’s brisk growth should continue, as the real estate market improves and documentation and compliance requirements become increasingly onerous.
Land Grab
While you are likely familiar with the government-sponsored enterprises (GSE) Fannie Mae and Freddie Mac, you may not have heard of Federal Agricultural Mortgage Corp (NYSE: AGM), otherwise known as Farmer Mac.
Similar to Fannie and Freddie, which provide ample liquidity to the residential real estate market, Farmer Mac ensures that reasonably priced financing is available to America’s farmers and rural communities, as well as to rural utility companies.
While Fannie Mae and Freddie Mac continue to struggle, Farmer Mac has made a strong recovery over
the past few years. In the first quarter of 2012, EPS surged by 18.6 percent over the prior year, rising to $2.04 as net interest income jumped by almost a third.
Loan loss provisions have also been on the decline at Farmer Mac, as credit quality steadily improves. The 90-day delinquency rate across all of its assets has declined to just 0.44 percent.
Asset quality improvement has been largely driven by elevated agricultural commodity prices—corn and wheat are currently trading near post-recession highs—and improving farmland valuations.
However, even as farmers’ fundamentals have improved, Farmer Mac’s share price has failed to keep pace. The lender is currently trading at just half its book value per share and just 7.2 times its forward 2012 earnings. As of the first quarter, it had $975 million in cash despite a market capitalization of only $272 million.
In addition to its attractive valuation, Farmer Mac also pays a 10- cent quarterly dividend. With a payout ratio of just 15.2 percent and plenty of cash on the books, the company is likely to raise its payout in the coming quarters.
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