There is a risk that retail is going down the drain, which would result in bankruptcies and vacancies for landlords. Depending on your beliefs, real estate investment trusts are either bargains today or they are value traps which are destined for mediocrity. Rather than fall for broad generalization, I decided to look at top tenants for each REIT I analyzed in this article, in order to determine the degree to which the business is subject to destruction from online. I also believe that while many retailers will have a harder time earning profits, the landlords that own the real estate have some margin of safety due to the long-term lease contracts. In addition, those landlords could always sell or repurpose those locations.
The other risk for retailers includes potentially higher interest rates, which would make many projects more expensive. Higher interest rates will reduce FFO and cash available to pay dividends to shareholders. The contra-argument to the rising interest rates thesis has been that rising rates are an indication of increased economic activity, which should bode well for landlords. The other contra-argument is that most of the REITs below have staggered maturities, and are mostly capitalized by equity rather than debt. The third contra-argument is that existing debt is already taken at low fixed interest rates. Rising interest rates should affect debt refinancing and profitability spread for new properties. Of course, everyone has been expecting rising interest rates for almost a decade now. Noone can predict the future.
As I mentioned before, I analyze REITs using the guidelines listed in this post. The guidelines include focusing on:
- Valuations
- FFO trends
- Occupancy
- Tenant Concentration
- Streak Consecutive Annual Dividend Increases
Realty Income (O) is a real estate investment trust, which invests in commercial properties. The REIT owned 4,944 properties at the end of 2016, most of which were single-tenant ones. Realty Income has a weighted average remaining lease term (excluding rights to extend a lease at the option of the tenant) of approximately 9.8 years. These are triple-net leases, where the tenant pays everything from taxes to maintenance on the property, while the landlord like Realty Income collects rent that escalates over time. It is a pretty sweet deal, provided that you can purchase great locations at attractive valuations.
Realty Income is a dividend achiever which has raised dividends for 24 years in a row. The REIT has a strong track record of paying dividends monthly, and raising them several times per year. It is the Golden Standard of Triple Net Leases.
The largest tenants for Realty Income are listed below. Most retailers today are widely believed to be doomed today, and Amazon is supposed to be the one and only retailer of choice in the future. The future will be tough on retail. However, people will still shop online and in physical locations. Looking at the list of 20 largest tenants, I think that we have a low risk for the majority of these locations losing out to Amazon.
Another factor I like in analyzing REITs is to review trends in portfolio occupancy. As you can see below, Realty Income has managed to enjoy a high occupancy in the 97% - 98% range over the past decade. The worst financial crisis since the Great Depression resulted in a decrease in portfolio occupancy to a low of 96.60%. This is not bad at all.
Below, you can see trends in Funds from Operations (FFO), Dividends Per Share (DPS) and FFO Payouts over the past decade for Realty Income (O).
Realy Income (O)
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2016
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2015
|
2014
|
2013
|
2012
|
2011
|
2010
|
2009
|
2008
|
2007
|
|
FFO/Share
|
2.88
|
2.77
|
2.58
|
2.41
|
2.02
|
1.98
|
1.83
|
1.84
|
1.83
|
1.89
|
DPS/Share
|
2.39
|
2.27
|
2.19
|
2.15
|
1.77
|
1.74
|
1.72
|
1.71
|
1.66
|
1.56
|
FFO Payout
|
83%
|
82%
|
85%
|
89%
|
88%
|
88%
|
94%
|
93%
|
91%
|
83%
|
Realty income has managed to grow dividends per share thoughout the Great Recession. This was supported by growth in FFO/share. As a result, the FFO Payout is around the same as it was a decade ago.
Today, Realty income is selling for 18.80 times FFO and yields 4.70%. Realty Income is the most expensive of all the three REITs we are evaluating today. I would be interested in buying more Realty Income if it yields more than 5%. This is equivalent to a price below $51/share.
National Retail Properties, Inc. (NNN) is a real estate investment trust (REIT) which acquires, owns, invests in and develops properties that are leased primarily to retail tenants under long-term net leases. As of December 31, 2016, it owned 2,535 properties. National Retail Properties is a dividend champion, which has rewarded shareholders with a raise for 27 years in a row.
Just like Realty Income, National Retail Properties has also enjoyed stability in occupancy. The occupancy rate has remained between 97%- 99% over the past 15 years. The main exception was the Great Recession, when occupancy rates declined all the way down to 96.40%. Having a diversified group of tenants, and having long-term lease agreements definitely helps smooth out difficult times for triple-net lease landlords.
You can find the ten largest tenants for National Retail Properties. I believe that most of those tenants are not going to be affected by the internet retailers. People will still need to buy gas or wash their cars from a physical location, and would likely eat at a restaurant at a physical location as well. It is quite possible that some industries such as banking will have a lower level of branches going forward. Others like Camping World will likely face a stressful retailing environment, and they would have to compete online and offline. However, this is where having a diversified number of tenants really helps smooth out any turbulence. In addition, you should not forget that these properties could be repurposed from one type of business to another.
Below, you can see trends in Funds from Operations (FFO), Dividends Per Share (DPS) and FFO Payouts over the past decade for National Retail Properties (NNN).
National Retail
Properties (NNN)
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2016
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2015
|
2014
|
2013
|
2012
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2011
|
2010
|
2009
|
2008
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2007
|
|
FFO/Share
|
2.28
|
2.15
|
2.09
|
1.91
|
1.77
|
1.57
|
1.31
|
1.12
|
1.91
|
1.94
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DPS/Share
|
1.78
|
1.71
|
1.65
|
1.60
|
1.56
|
1.53
|
1.51
|
1.50
|
1.48
|
1.40
|
FFO Payout
|
78%
|
80%
|
79%
|
84%
|
88%
|
97%
|
115%
|
134%
|
77%
|
72%
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National Retail Properties has not been able to grow FFO/share by much over the past decade. Dividends grew slightly faster than FFO/share, which explains the increase in the FFO payout ratio. I like the fact however that National Retail Properties kept paying and raising dividends to shareholders, even during the financial crisis. Despite the lackluster growth, this REIT could be a decent idea at the right price. It is selling at 16.50 times FFO and yields 4.90%. It may be a decent idea on dips below $37/share. I recently initiated a small position in this REIT.
Tanger Factory Outlet Centers, Inc. (SKT) is an owner and operator of outlet centers in the United States and Canada. This REIT which focuses on developing, acquiring, owning, operating and managing outlet shopping centers. As of December 31, 2016, its portfolio consisted of 36 outlet centers, which contained over 2,600 stores representing approximately 400 store brands. National Retail Properties is a dividend achiever, which has rewarded shareholders with a raise for 24 years in a row.
Tanger has maintained a high occupancy rate over the past 20 years. The rate usually dips to 96% during a recession, and then bounces back to 98% - 99%, before going down during the next recession. Currently, Tanger has a low occupancy rate, as if we are in a recession.
You can see Tanger's largest tenants listed below. Most of those are branded companies, which sell merchandise such as apparel (clothes) to the masses. I do believe that these tenants could face more pressure than those for Realty Income and National Retail Properties. This is where I could conclude that perhaps Tanger is slightly riskier than Realty Income and National Retail Properties. That being said, I believe that each of those retailers has a chance of implementing a dual online/brick and mortar strategy for accommodating customers. Having some brand equity associated with specialty merchandise and exceptional quality, can also be a plus. Another plus is having a type of merchandise that is unique to the customer. For example, purchasing shoes or clothes requires the need for some physical trial and error, until you find the one that fits right. Buying certain items like shoes online could be trickier, because it may create extra hassle of mailing things back if they are not as advertised. The other nice thing to consider is that the properties are easy to reconfigure in order to accommodate new tenants.
I spent the most time justifying the type of tenants for Tanger, which probably explains more about their durability risk relative to the tenant base for Realty Income and National Retail Properties above.
Below, you can see trends in Funds from Operations (FFO), Dividends Per Share (DPS) and FFO Payouts over the past decade for Tanger Factory Outlets (SKT).
Tanger Factory Outlet
(SKT)
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2016
|
2015
|
2014
|
2013
|
2012
|
2011
|
2010
|
2009
|
2008
|
2007
|
|
FFO/Share
|
2.36
|
2.23
|
1.82
|
1.94
|
1.63
|
1.44
|
1.22
|
1.35
|
1.18
|
1.24
|
DPS/Share
|
1.26
|
1.10
|
0.95
|
0.89
|
0.83
|
0.79
|
0.77
|
0.76
|
0.75
|
0.71
|
FFO Payout
|
53%
|
49%
|
52%
|
46%
|
51%
|
55%
|
63%
|
57%
|
64%
|
57%
|
I view Tanger as slightly riskier than the first two REITs I looked at in this article. However, it is also cheaper than them. In addition, this REIT also has the lowest FFO payout ratio. The REIT is selling for 11.20 times FFO and yields 5.10%. I recently initiated a small position in Tanger. I liked the low valuation, the low FFO payout, and the fact that I am getting a 5% instant rebate on my purchase price. That dividend rebate would likely keep increasing over time too.
I like the fact that for all of the three REITs mentioned here, I am paid to wait. We have a low valuation, coupled with generous and sustainable dividends, which serve as instant rebates on my purchase price. If each of those businesses stagnates, and never manages to grow for 20 years into the future, I would have collected enough in dividends to cover the cost of my shares. Best of all, I would still own the shares, which provide ownership claims to real estate throughout the US, as well as the rental income or sale price of said real estate. That being said, it is quite possible that these REITs could get even cheaper from here. During the financial crisis, even quality REITs sold at yields of 8%. I am stating this in order to make the point that buying shares takes time, and should be done slowly and over time. The investor should not get scared away but should consider buying even if shares fell in price, as long as fundamentals have not deteriorated sharply of course. The investor who buys every month for their diversified portfolio, as long as the fundamentals are in tact, and valuation is still attractive, should do well in the long-run.
Full Disclosure: Long O, NNN, SKT
Relevant Articles:
- Dividend Investors are Getting Paid for Holding Dividend Stocks
- Five Things to Look For in a Real Estate Investment Trust
- Investors Get Paid for Holding Dividend Stocks
- Should Dividend Investors Worry About Rising Interest Rates?
- Are we in a REIT bubble?
