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Why Safeway's sale may be ‘transformational’ for this REIT

A customer buys flowers at a Safeway store in Mountain View, Calif., in this file photo.

Paul Sakuma/AP

Inside the Market's roundup of some of today's key analyst actions. This post will be updated with more analyst commentary during the trading day.

Empire Co. Ltd.'s agreement to acquire the Canada Safeway stores could become a "transformational" development for Crombie Real Estate Investment Trust, analysts at BMO Nesbitt Burns point out.

To help pay for the $5.8-billion purchase from Safeway Inc., Empire - which operates the Sobey's banner - will sell about $1-billion in Safeway real estate and then lease it back. Crombie, which Empire spun out to handle its real estate, has the right to make first offers on the buildings.

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"We suspect Empire would be motivated to see the portfolio sold to the REIT," BMO said in a research note.

The assets are mostly located in Western Canada and are forecast to generate about $57-million of annual net operating income (NOI). That implies a 5.7 per cent cap rate - the ratio between the net operating income produced by an asset and its the original price paid to buy the asset.

"The $1.0-billion transaction would be a transformational acquisition for the REIT, increasing Crombie's asset base by about 35 per cent and enhancing its exposure to Western Canada from about 10 per cent of NOI to an estimated 32 per cent," BMO analysts said in a research note. "The REIT's exposure to Empire/Sobeys as a tenant would increase to about 50 per cent from about 34 per cent, for what becomes a stronger grocery platform. The REIT's weighted average cost of capital is estimated at about 5.4 per cent (vs. 5.7 per cent cap rate), which would make the transaction accretive in the short term in addition to being highly strategic over the long term."

He thinks Crombie would have to raise about $500-million in fresh equity to make the acquisition.

"Increasing the REIT's asset base to the $4-billion dollar level and the market cap to an estimated $1.8-billion would position Crombie for an investment-grade rating," the analysts added. "The increase in float from $726-million to $1.2-billion would make the REIT more liquid and increase interest from a broader base of institutional investors."

Target: BMO maintained a "market perform" rating and $13.80 price target.

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Transat A.T. Inc. rose a very healthy 13 per cent on Thursday after its earnings beat – and analysts this morning are ratcheting up their price targets, betting the stock still has further to climb.

Desjardins Securities analyst Benoit Poirier raised his target to $11 from $8 – which suggests the stock could still nearly double over the next 12 months. Transat's adjusted loss per share of 10 cents was much narrower than the average analyst forecast of 33 cents, even though revenue came in slightly below Street predictions because of a decision to reduce capacity.

Transat officials provided an encouraging outlook, predicting that the second quarter will bring better results than a year ago.

CIBC World Markets analyst Kevin Chiang was more cautious on the stock, reiterating a "sector underperformer" rating – although he raised his price target to $6.50 from $5.25.

"At this time, it appears that Transat's strategy of being more disciplined in its capacity deployment is resulting in improving pricing power," Mr. Chiang commented.

But, he said, "our longer-term concerns remain that Transat faces increasing competition, as WestJet continues to grow its B737 fleet and Air Canada grows its rouge banner. The latter is guiding toward capacity growth of 9 per cent to 11 per cent next year, with the majority of this focused on long-haul markets."

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Target: The median analyst target on Transat is near the mid-point of the two analysts' views, at $8.25.

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For more analyst actions, breaking investing news and analysis, follow Darcy Keith on Twitter at @ eyeonequities

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About the Author
Investment Editor

Darcy Keith is The Globe and Mail's Investment Editor. He has been a business journalist since 1992 and joined the Report on Business in 2010 from Yahoo! Canada, where he was the senior editor of finance. More

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