AFFO vs FCF: how to analyze a REIT

2026-06-23 · By Lubin Danilo, founder of Lubin Investment

AFFO (Adjusted Funds from Operations) is the standard for REIT analysts. Our method uses standard P/FCF. The key difference: REITs have very high real estate depreciation that reduces accounting FCF, but this depreciation doesn't represent real cash outflows. Adding it back, AFFO reveals the cash actually available for dividends — and much less 'expensive' valuations than our P/FCF suggests.

The fundamental problem: REITs depreciate a lot

REITs own physical buildings. These buildings depreciate on paper — over 27.5 years for residential, 39 years for commercial in the US. A $100M property generates ~$2.5M/year of accounting depreciation. For a REIT with $15 billion in assets (like Realty Income), this means hundreds of millions in annual depreciation weighing on net income... without representing real cash outflows. This cash stays in the business and funds the dividend.

FCF vs AFFO: the difference in numbers

Real example: Realty Income

Realty Income (O): our screener shows P/FCF = 14.0×, which seems 'reasonable'. But our buy target of $29.94 is based on FCF/share × 7×. The market price of $60.58 implies the market pays 14×. In AFFO terms, the multiple is ~20-22× — the sector standard. The gap between our P/FCF (14×) and AFFO (20-22×) comes from AFFO excluding some capex that our FCF includes. Our method isn't 'wrong' for REITs — it's simply more conservative, which explains why our target is 2× below the market price.

STAG example: the best-scored REIT in our screener

STAG Industrial scores 7/10 — the best REIT score. Its profile is more 'compatible' with our method because its depreciation is lower (industrial assets less valued than premium retail) and dilution is smaller (+1.84%/yr). This means the gap between our P/FCF (15.9×) and STAG's AFFO (~20×) is narrower than for Realty Income. STAG is the REIT that most resembles a growth stock by our criteria.

Recommendation: how to analyze a REIT

To analyze a REIT properly, combine 3 metrics: 1/ P/AFFO (sector standard multiple, target 15-20× for a quality REIT). 2/ Dividend yield and AFFO payout ratio (target <85% for safety). 3/ AFFO/share growth over 5 years (target >3%/yr). Our P/FCF screener remains useful for comparing REITs vs other sectors, but the FCF × 7× buy target doesn't apply literally to REITs.

FAQ

Is our P/FCF method useless for REITs?

No — it remains a cross-sector comparison tool. It tells you a REIT is less 'cash efficient' than, say, ServiceNow. But the FCF × 7× buy target is too conservative for REITs and shouldn't be used literally.

What are REITs required to distribute?

US REITs must distribute at least 90% of taxable income to benefit from REIT tax status (no corporate-level tax). That's why they can't retain cash to grow — they issue equity and debt to fund acquisitions.

Is AFFO manipulable by management?

Yes. AFFO is a 'non-GAAP' metric — each REIT defines its own adjustments. Some exclude SBC, others don't. Some include 'recurring capex' differently. Comparing AFFO between REITs requires reading accounting footnotes carefully.

What's the best tool for comparing REITs?

For retail investors, normalized P/AFFO (calculated by REIT analysts like Green Street) is most reliable. Dividend yield + AFFO payout ratio + 5-year AFFO/share growth forms a simple, effective dashboard.

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About the author

Written by Lubin Danilo, founder of Lubin Investment. A self-taught individual investor, I have analyzed stocks through their fundamentals for several years and invest my own money with this method. I codified it into a tool that judges a company's quality and its price separately, using criteria drawn from the financial literature (Warren Buffett, Michael Mauboussin, Aswath Damodaran).