Riding the Refi Wave in Commercial Real Estate

Hardly any new office buildings, hotels and malls are being built. But new construction is not where the action is. Instead, the big trend in commercial real estate is refinancings. Between now and 2018, trillions of dollars in loans used to finance properties will mature and have to refinanced.

The big refinancing wave has already started to form. According to consulting firm Deloitte Touche, 64 percent more commercial mortgages were originated in 2011, with a big increase expected for 2012 (the MBA origination index was up 25 percent in second-quarter 2012).

Life insurance companies, government agencies, and banks are stepping all over themselves to refinance commercial real estate (CRE) loans, especially those on core properties. Retail properties reported the highest growth in new mortgage originations, up more than 55 percent second-quarter 2012.  

At the same time, rent and vacancy levels are stabilizing across property types, which will provide a respite for landlords and mortgage issuers alike.

Walker & Dunlop (NYSE: WD) is a leading commercial real estate finance company, focused on multifamily dwellings (apartments, retirement communities and student housing), as well as hospitals. W&D finances its operations with capital from life insurance companies, banks, pension funds, and specialty finance companies. It also generates revenue by providing advisory, asset management, and investment-management services to clients, including interim financing. 

Based in Bethesda, Md., W&D is relatively small (400 employees), considering its large market presence: the firm expects to originate close to $7 billion in commercial mortgages in 2012, and around $9 billion in 2013, making it one of the largest commercial mortgage lenders in the country. And W&D is still run by the family that started it 75 years ago, recently under the guidance of CEO, Chairman and President Willy Walker.

W&D reported phenomenal third-quarter 2012 results, with a triple-digit advance in both adjusted net income and total revenue, which more than doubled to around $70 million, from the year-earlier period. This increase was driven by a 141 percent jump in loan originations, and a 52 percent increase in mortgage-servicing fee income. Adjusted net income increased 135 percent to $14.3 million, or $0.56 per diluted share.

W&D’s loan-servicing portfolio totaled about $34 billion at the end of September, more than double its size the year before. That is mostly due to the acquisition of CWCapital, completed in September 2012, through which Walker & Dunlop acquired the right to service $14.5 billion in mortgage loans.

Servicing fees totaled $13.3 million for third-quarter 2012, up 52 percent from the year before. The increase in was due to organic growth, as well as one month of servicing fees from CWCapital.

Half Way to the Top

W&D is a small stock, with a market capitalization of around $565 million recently. The shares are up close to 37 percent in the past year. But we think Walker & Dunlop has more room to run. The consensus earning estimate for 2013 is $2.20 per share, a 16 percent increase. Based on that, W&D is trading for a relatively low 9 times forward earnings. Long-term debt is relatively low at 24 percent of equity, and the price-to-book value ratio is just over 1.

Furthermore, W&D’s price-to-estimated growth (PEG) ratio is 0.74, based on five-year estimated earnings growth of 11.7 percent. If W&D were fairly valued, the PEG should be at 1.0.

Based on a price-earnings ratio of 10, our 12-month price target for Walker & Dunlop is $22, a 35 percent increase from recent levels.

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Greg Pugh, an income-investing expert, publishes a newsletter called Investing for Monthly Income.

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