REITs in our method: O, NNN, STAG, why they fail our screen

2026-06-22 · By Lubin Danilo, founder of Lubin Investment

REITs (real estate investment trusts) are legally required to distribute 90% or more of their income. This structural constraint prevents the organic FCF growth our method requires (10%+ per year). Realty Income (O) scores 6/10 in our screener with a buy target of $29.94, well below its price of $60.58. This is not a flaw in REITs — it is an incompatibility with our FCF growth criterion.

What REITs are and their legal constraint

A REIT (Real Estate Investment Trust) is a real estate investment structure that benefits from a tax exemption provided it distributes at least 90% of its taxable income to shareholders. This rule, introduced by the US Congress in 1960 via the Real Estate Investment Trust Act, is the raison d'être of REITs: allowing retail investors to access commercial real estate with the advantages of a listed stock. But this distribution obligation radically transforms the financial dynamics.

Why our method does not retain REITs

Our method requires FCF per share growth of 10%+ per year over 5-10 years. For a standard company, this growth comes from profits reinvested in the business. A REIT cannot reinvest heavily: it distributes 90%+ of its profits. Its FCF growth therefore depends on acquisitions financed by debt or new share issuances. Realty Income thus grows at 4-5% per year in AFFO per share — far from our 10% threshold.

Real data: Realty Income and major REITs

AFFO vs GAAP FCF: two different metrics

REITs traditionally use AFFO (Adjusted Funds from Operations), a non-GAAP metric that excludes real estate depreciation considered non-cash. Our screener uses GAAP FCF (Free Cash Flow under US accounting standards), which includes all capital expenditures. For a REIT that must constantly maintain and renovate its real estate portfolio, maintenance capex is real and significant. AFFO therefore overstates the cash actually available.

REITs can be good investments, just not for our method

This is not to say that REITs are bad investments. For an investor seeking regular passive income (Realty Income pays a monthly dividend of 5%+), they have a legitimate place in a portfolio. Our method is optimized to identify companies with high and recurring FCF growth. REITs, banks and utilities have fundamentally different models that our FCF criteria do not capture correctly. They are therefore out of scope by construction.

FAQ

Realty Income (O) is popular. Why only 6/10?

Realty Income is an excellent REIT with an impressive track record. But our criteria penalize low FCF/share growth (about 1.1%/year), the 90%+ distribution obligation, and the fact that the current price ($60.58) is 102% above our target ($29.94). This is not a value judgment on O — it is the incompatibility between the REIT structure and our method.

Does our method exclude all REITs?

In practice, yes. No REIT passes our FCF growth criteria because the 90% distribution constraint prevents reinvestment in the business. Some specialized REITs (data centers, cell towers) have different dynamics, but even they struggle to reach our 10%/year FCF growth threshold organically.

What is AFFO and why is it different from FCF?

AFFO (Adjusted Funds from Operations) is a REIT-specific metric that adds real estate depreciation back to net income (this depreciation is considered non-cash for real estate that appreciates). GAAP FCF subtracts all actual capex. For REITs, AFFO is generally 20-40% higher than GAAP FCF. Our method uses GAAP FCF.

Are there sectors similar to REITs that pass your method?

Not directly. Utilities (electricity, gas) are in the same situation: regulated dividends, low FCF growth, different model from our criteria. Banks have a leverage mechanic incompatible with our FCF calculation. These are three categories our method structurally excludes.

Is a REIT with a 5%+ dividend not more attractive than a stock with no dividend?

It is a matter of investment philosophy. Our method does not optimize current income but long-term FCF value creation. A company that reinvests its FCF at 15%/year creates more wealth over 10 years than a REIT distributing 5%/year. These are two different strategies, not two different quality levels.

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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).