Medical Properties Trust (MPW) was recently downgraded by the Bank of America from "hold" to "sell" with a 1-year target price of $16. The stock traded at $17 before the downgrade and crashed to $15 subsequently. I wanted to analyze the stock and to provide my own target price as it is my second biggest holding. I also view this specific stock as a holding I would like to keep forever. In this article, I explain why I view the medical sector as very attractive, and share with you in detail my analysis of the FFO and the expected share price.
The medical sector is attractive
Since 2008, when my investments took a big hit, I have learned a very important lesson. I realized that as an individual investor I would never have better information than most investors. Individual investors have limited information, and cannot compete with the professional players in turnaround time. This crisis also taught me that even the professional players can take significant hits, as happened to the Financial sector in the US and Europe. The main advantage that individual investors have over other investors is the ability to be patient. Individual investors cannot identify tomorrow's rising stars, but they can identify growing sectors and hold investments long enough until they bloom.
One of the facts that we all know is that the population is aging, especially in the western world. Older people have specific needs such as senior housing, Skilled Nursing Facilities, and more medical treatment. As we all know, the more than 78M baby boomers will increase the demand for these services. More than 8,000 people per day turn 65 in the US, and the demand for these services is expected to double over the next 10 years.
MPW is the only public REIT that focuses on hospital financing. Some competitors have hospitals in their portfolios, but these are small pieces of their portfolios. The focus on hospitals makes MPW a niche company acting in an attractive and a growing market.
Several points make hospital financing very attractive:
- Only 1% of the hospitals close every year
- The hospital license goes with the facility, not the operator
- Buildings are unique
- Long life of the premises
- Relocation of hospitals is not common
- Population is growing older
These points position this sector very attractively. The MPW strategy is to concentrate on this sector.
MPW stock analysis
Before starting to analyze the FFO, I would like to share with you some selected data for MPW versus their main competitors (the main competitors as MPW presented in February this year):
Medical Properties Trust
Health Care REIT
Healthcare Realty Trust
*Source - Yahoo Finance as of 08.05.2013 close
The comparison above is to the big caps or the 'Blue Chips' of the medical REIT world. You may argue whether this is the right comparison, but no other public REIT focuses on hospitals. This is the best we can find. MPW clearly has a better valuation (low P/E), better growth pattern (PEG ratio), and higher stability (debt/equity). That may explain the higher returns over its peers during the last year.
However, MPW has disadvantages compared to VTR, HCN, and HCP:
- Beta. The Beta of MPW is very close to 1, so it is exposed to higher volatility
- Lack of a track record. MPW is a relatively new REIT (started operating in 2007). It also reduced its dividends during the 2008 crisis
Taking these points together, I believe that MPW has a very good ratio between risk and reward.
2014 FFO estimate
The first step in analyzing the stock is to set a target FFO for 2013 and a normalized FFO for 2013 year end:
Q1 FFO was $0.25 per diluted share ($35MM in total)-flat to Q4 2012. Effectively, this number means 8% growth over Q4 2012. During Q1 2013, around 12MM shares were issued, raising $173MM of capital, i.e., about 8% dilution. Effectively, the FFO/share grew by 8% without new purchases mainly due to the ramp-up of prior acquisitions.
FFO per share is expected to grow due to the following reasons:
- Internal growth - As disclosed in MPW Financials, contracts include annual appreciation of rent, which varies from 1% to 4%. The appreciation will not affect earnings per share as per US GAAP rent is smoothed over the lease period, but it affects the FFO. An average appreciation of 2% per annum is expected to increase FFO by $4MM or FFO/share by about $0.03.
- Internal growth due to FFO not distributed - The FFO not distributed that will be used for new acquisitions is expected to generate incremental FFO/share of about $0.03 (assuming dividends remain $0.8 per share).
- Ramp-up of 2012 acquisitions - MPW management expects an FFO per share in 2013 of $1.1, mainly coming from ramp-up of 2012 acquisitions.
- New acquisitions - In a Q1 conference call, the CEO and CFO mentioned that they face a very healthy pipeline, and that they intend to use all the $0.5bn revolving credit facility for new acquisitions at CAP rates exceeding 10%. Assuming that only $400MM will be acquired, and given the funding cost of 6%-6.5%, this will add to the FFO/share $0.10 to $0.11 (including the impact of expenses). As most acquisitions will probably be done in Q3 and Q4, I believe that only $0.03 will impact the 2013 FFO per share, and $0.08 will be incremental in 2014.
- External growth - If incremental 10MM stocks are issued at a price of $16 per share, and leveraged, the FFO/share is expected to increase by $0.05.
To summarize, my estimate for the FFO per share without external growth for 2014 is $1.24. This still leaves room for an upside if an accretive dilution is done later this year.
Given the current interest rate environment and the modest growth expectations, the P/FFO ratio of 15 will set a target price of $18.5-$19. Currently, the stock trades at $16.97 after the stock reached a peak of $17 and then took a dive to $15.
Expected yield for the coming 12 months
Total return expected from MPW is estimated as follows:
Dividend yield - 4.9%
Stock appreciation - 9% to 12%
Total return - 13.9% to 16.9%
Conclusion - MPW is still attractive
My conclusion is to keep the stock for the next 12 months and not to seek an exit opportunity at this stage.