Resource Capital's Dividend Dilemma

Resource Capital (RSO) is one of the few specialty finance REITs that has been able to maintain a significant cash dividend throughout the credit crisis, most recently sporting a $0.30/share quarterly cash dividend. At a stock price of about $5.00, that's an amazing 24% yield.

More compellingly, Resource Capital has been able to maintain this high yield for over a year, since the stock price first dipped below $5.00 in September 2008. At one point during the lows of March 2009, RSO was paying a quarterly dividend of $0.30/share against a share price of $1.43 - a yield of nearly 84%!

Although Resource Capital has done an extraordinary job maintaining a cash dividend while materially reducing recourse debt on the balance sheet, the company's most recent results indicate that lofty dividend is no longer supportable, at least from an economic standpoint.

Q3 2009 taxable income decreased significantly for the second quarter in a row, to just $0.14/share - well below the $0.30/share dividend amount. For the nine months ended September 30, 2009, REIT taxable income was just $0.61/share versus distributions of $0.90/share declared for 2009 to date.

RSO had been able to maintain a level of taxable income necessary to support the dividend in previous periods because of the taxable income flowing from its Apidos CLOs, three foreign-domiciled taxable REIT subsidiaries collateralized by bank loans. REITs are required to include income from foreign TRSs in their taxable income and the Apidos CLOs were producing taxable income requiring distribution.

Recently, however, Resource Capital has had to sell & replace (at a loss) certain assets out of the CLOs to maintain covenant compliance & keep the CLOs cash flowing at all tranches. These realized losses have materially reduced the taxable income coming from the Apidos CLOs. Thus, in order to maintain the cash flows to the junior tranches of the CLOs, RSO has had to accelerate taxable losses that normally would not have been recognized so quickly.

RSO seems to be determined to maintain a significant cash dividend as a way to prove its general health and support a lagging stock price. While Resource Capital has done an outstanding job managing its balance sheet & overall operations during the credit crunch, in this environment, it appears foolish to distribute a return of capital to shareholders. Hopefully, RSO will reduce the dividend and use the retained capital to increase share buybacks or repurchase debt at a significant discount.

Disclosure: Author has no positions in RSO.

Comments

[User 229919:]

statements at the end do not appear right. rso in fact did repurchase debt at a significant discount.

3rd q highlights said-repurchased 14.52 million of its own corporate debt at an 88% discount to par for a gain of 12.7 million.

Nov 03 05:11 PM

[Patrick Harden:]

RSO did execute some debt repurchases at a significant discount during the quarter. I was implying that the Company could increase the debt repurchases even further using the capital retained from a dividend decrease.

Nov 03 05:46 PM

[donup:]

What your saying does'nt seem to make sense. It's a REIT don't they have to pay a certain % of income as a div? They just can't retain the div. What would be the advantage of buying shares on the sec market....they would just inflate the price, why not buy debt at 88% of par? I like what they are doing, and I've held a position for awhile....it seems to be working, and they have little or no bad loans on the books!

Nov 03 07:10 PM

[Patrick Harden:]

REITs have to pay out 90% of their ordinary taxable income to shareholders in order to retain REIT status. RSO is paying out more to shareholders than necessary (over 100% of taxable income) - thus you are getting a portion of your original investment back as a return of capital. Instead, RSO could buy back its own shares at market prices that are below book value and add shareholder value that way.

Nov 03 10:33 PM

[a. palmer jr.:]

Isn't that the reason people buy these shares, for the high dividend?

Nov 04 08:39 AM

[YoYoMama:]

This isn't a great time anyway to be looking at REITs anyway. Better sectors to look into right now for high dividends are energy and emerging markets debt. Much more pain to come in commercial and residential real estate. I'm avoiding for now.

Nov 04 09:23 AM