In the healthcare REIT space, few companies have looked as attractive as Omega Healthcare (OHI), which in December traded for less than 10 times 2012 earnings and at a 30% discount to our fair value estimate. The company is often on top of our list of stocks with high VBI ratings and strong dividend growth prospects and is a solid candidate for the portfolio of our Dividend Growth Newsletter, boasting a 7%+ dividend yield.
As a provider of capital to the long-term healthcare industry (skilled nursing facilities and assisted living facilities), Omega receives fixed rent payments from tenants, with annual escalators. The company operates in an enviable position in the healthcare space. Expectations are that the 85+ age group will increase to 21 million people and make up roughly 5% of the total US population by 2050 (up from about 6 million and 2% today). Plus, payers remain focused on driving seniors to skilled nursing facilities, which offer a low-cost setting of care. And with the number of skilled nursing facilities continuing to decline (now about 15,600; was nearly 17,000 in 2000), the firm is well positioned to capture demand.
Omega recently raised its dividend 2.2%, to $0.45 per share, giving it an annual dividend yield of 7.2% at current levels. The company generates consistent and relatively stable free cash flow, and we think its dividend coverage remains strong, despite an elevated debt load. Still, interest costs are manageable, and the company has no meaningful debt maturities until 2015--there's an August 2015 maturity of its unsecured revolver, and its 2020 7.5% notes are callable in February 2015. Omega garners an investment-grade rating from the agencies, so access to the debt markets remains very much open. And 86% of its assets are unencumbered should it need to borrow against them.
The company's portfolio is solid and includes long-term triple-net master leases with cross collateralization provisions. Omega's occupancy rates have been relatively stable ranging from just over 80% in 2001 to nearly 85% in 2009, and we're not expecting any large deviations from this range in the future.
Still, such a strong fundamental outlook is not without near-term risks. For one, nursing homes are a natural place for Medicare to look to make cuts. And while this wouldn't directly impact Omega, the tenants of its facilities could suffer profitability headwinds. In turn, this could put downward pressure on rents and increase Omega's risk profile.
Though not too severe, we admit the company does have a degree of customer concentration risk, as shown below. Unlike retail REITs, which often lack significant exposure to individual companies, healthcare REITs with nursing facilities tend to concentrate on a few providers (as most of the funding comes indirectly from Medicare).
|Public Companies||Investment||Investment %|
|Sun Healthcare Group||$ 231,365,744||8.3%|
|Advocat, Inc.||$ 146,666,724||5.3%|
|Other (less than 1%)||$ 15,329,902||0.6%|
|Public Company Total||$ 393,362,370||14.2%|
|CommuniCare Health Services||$ 323,533,381||11.7%|
|Airamid Health Management||$ 263,560,346||9.5%|
|Signature Holdings II||$ 227,063,453||8.2%|
|Gulf Coast Master Tenant||$ 146,636,024||5.3%|
|Affiliates of SLC||$ 129,904,134||4.7%|
|Guardian LTC Management||$ 125,971,328||4.5%|
|La Vie Care Management||$ 117,654,396||4.2%|
|Formation Capital, LLC||$ 110,612,757||4.0%|
|Ciena Healthcare||$ 104,797,644||3.8%|
|Nexion Healthcare||$ 91,903,194||3.3%|
|White Oak, Inc.||$ 87,708,013||3.2%|
|Essex Healthcare Corp.||$ 83,587,258||3.0%|
|Less than 3%||$ 569,559,752||20.5%|
|Private Company Total||$ 2,382,491,680||85.8%|
|Total Investment||$ 2,775,854,050||100.0%|
Geographic diversification may be more important. As outlined in the table below, Omega is fairly diverse outside of Florida and Ohio, and we aren't as worried about the high concentration in Ohio as we would have been a few years ago (given that the "Rust Belt" economy is improving). Further, Florida remains "the retirement capital of the US," so having material exposure to the state is a positive for the company, in our opinion.
|State||Number of Facilities||Gross Investment||% of Gross Investment|
|West Virginia||11||$ 75,810||2.7%|
|North Carolina||10||$ 57,733||2.1%|
|Rhode Island||4||$ 43,534||1.6%|
|Less than 1%||40||$ 208,590||7.5%|
All things considered, there are many things to like about Omega-in particular, the demographic tailwinds that will play to the firm's strengths in coming years. We're contemplating adding shares to our Dividend Growth Newsletter portfolio to capture its tremendous and growing dividend yield.