Digital Realty Trust, Inc. (NYSE:DLR) and First Potomac Realty Trust (NYSE:FPO) are the two most active stocks in the REIT – Office industry based on today’s trading volumes. Investors are clearly interested in the two names, but is one a better choice than the other? We will compare the two companies across growth, profitability, risk, valuation, and insider trends to answer this question.
The ability to grow earnings at a compound rate over time is a crucial determinant of investment value. Analysts expect DLR to grow earnings at a 35.36% annual rate over the next 5 years. Comparatively, FPO is expected to grow at a 14.00% annual rate. All else equal, DLR’s higher growth rate would imply a greater potential for capital appreciation.
Profitability and Returns
Growth doesn’t mean much if it comes at the cost of weak profitability. To adjust for differences in capital structure we’ll use EBITDA margin and Return on Investment (ROI) as measures of profitability and return. Digital Realty Trust, Inc. (DLR) has an EBITDA margin of 30.9%, compared to an EBITDA margin of 84.81% for First Potomac Realty Trust (FPO). This suggests that FPO underlying business is more profitable. DLR’s ROI is 4.90% while FPO has a ROI of 1.80%. The interpretation is that DLR’s business generates a higher return on investment than FPO’s.
Earnings don’t always accurately reflect the amount of cash that a company brings in. On a percent-of-sales basis, DLR’s free cash flow was -4.84% while FPO converted 0% of its revenues into cash flow. This means that, for a given level of sales, FPO is able to generate more free cash flow for investors.
Liquidity and Financial Risk
Liquidity and leverage ratios are important because they reveal the financial health of a company. DLR’s debt-to-equity ratio is 1.55 versus a D/E of 1.38 for FPO. DLR is therefore the more solvent of the two companies, and has lower financial risk.
DLR trades at a forward P/E of 60.41, a P/B of 4.58, and a P/S of 10.97, compared to a forward P/B of 1.38, and a P/S of 4.30 for FPO. Given that earnings are what matter most to investors, analysts tend to place a greater weight on the P/E.
Analyst Price Targets and Opinions
When investing it’s crucial to distinguish between price and value. As Warren Buffet said, “price is what you pay, value is what you get”. DLR is currently priced at a -1.22% to its one-year price target of $119.87. Comparatively, FPO is -0.09% relative to its price target of $11.15. This suggests that DLR is the better investment over the next year.
The average investment recommendation on a scale of 1 to 5 (1 being a strong buy, 3 a hold, and 5 a sell) is 2.60 for DLR and 3.50 for FPO, which implies that analysts are more bullish on the outlook for FPO.
Risk and Volatility
No discussion on value is complete without taking into account risk. Analysts use a stock’s beta, which measures the volatility of a stock compared to the overall market, to measure systematic risk. A stock with a beta above 1 is more volatile than the market. Conversely, a beta below 1 implies a below average level of risk. DLR has a beta of 0.03 and FPO’s beta is 0.80. DLR’s shares are therefore the less volatile of the two stocks.
Insider Activity and Investor Sentiment
The analysis of insider buying and selling trends can be extended to the aggregate level. Short interest, which represents the percentage of a stock’s tradable shares currently being shorted, captures what the market as a whole feels about a stock. DLR has a short ratio of 9.75 compared to a short interest of 1.51 for FPO. This implies that the market is currently less bearish on the outlook for FPO.
First Potomac Realty Trust (NYSE:FPO) beats Digital Realty Trust, Inc. (NYSE:DLR) on a total of 6 of the 11 factors compared between the two stocks. FPO is growing fastly, has a higher cash conversion rate and has lower financial risk. In terms of valuation, FPO is the cheaper of the two stocks on book value and sales basis, Finally, FPO has better sentiment signals based on short interest.