why ffo is a good measure of reit performance
ffo compensates for cost accounting methods that may inaccurately communicate a reit s true performance generally accepted accounting principles gaap require that all reits depreciate their investment properties over time using one of the standard depreciation methods however many investment properties actually increase in value over time making depreciation inaccurate in describing the value of a reit depreciation and amortization must be added back to net income to reconcile this issue ffo also subtracts any gains on sales of property because these types of sales are considered to be nonrecurring reits must pay out 90 of all taxable income in the form of dividends which are cash payments to investors gains on sales of property do not add to a reit s taxable income and should therefore not be included in the measurement of value and performance as mentioned ffo per share is sometimes provided by firms as a supplement to their eps earnings per share is a company s net income divided by the outstanding equity shares eps and ffo per share provide a measure of how much income is being generated on a per share basis these measures also help investors determine whether the money is being used effectively by management also many analysts and investors assess a reit s price ffo ratio as a supplement to the price to earnings p e ratio which is the stock price divided by eps in the case of a reit the market price of the reit would be divided by its ffo per share funds from operations ffo vs adjusted funds from operations affo real estate analysts are also increasingly calculating a reit s adjusted funds from operations affo this calculation takes a reit s ffo and subtracts any recurring expenditure that is capitalized and then amortized as well as any straight lining of rents these recurring capital expenditures may include such maintenance expenses as painting projects or roof replacements affo has gained traction as a more accurate estimate of a reit s earnings potential the affo measure was developed to provide a better measure of a reit s cash generated or dividend paying capacity in addition to affo this alternate measure is sometimes referred to as funds available for distribution or cash available for distribution example of how to use ffosimon property group is a popular mall reit it reported funds from operations on its 2017 income statement of 4 billion up 6 from 2016 the firm s net income meanwhile totaled 2 2 billion to arrive at ffo the firm added back depreciation and amortization of about 1 8 billion and further adjusted for other smaller figures including a reduction of 5 3 million for payment of preferred distributions and dividends and a noncontrolling interests portion of depreciation and amortization that resulted in an additional 17 1 million reduction simon also reported a diluted ffo per share figure of 11 21 compared to a diluted eps figure of 6 24 