Earlier this month, American Realty Capital Properties (ARCP) issued its series F preferred. The preferred has coupon of 6.7% and was issued in related to the acquisition of ARCT IV. Shareholders of ARCT IV will receive not only common shares of ARCP, but will also receive a piece of the series F.
So while the coupon is 6.7%, this is only at par value. The series F preferred is actually trading at a 13.6% discount to par value. This puts the yield on cost at 7.75%. Considering that the dividend is paid every month, it seems like a great deal.
So why is the preferred trading at a discount in a low rate environment? Based on the other fixed-income securities, the market should be driving it up above par, right? Is there something wrong with the underlying company?
The real reason the preferred is trading at a discount is because of where the common is at. The common has nearly a 7% dividend yield so the market is not going to be too enthusiastic about a preferred yielding less. This is because preferreds don't have any upside, it's just a fixed stream of payments. It wouldn't make sense for investors to take a lower yield and no upside.
American Realty Capital has a very sound business model and the company is doing fine. Essentially they borrow money at cheap rates and purchase NNN real estate assets at higher cap rates. They make a spread on the rates, thus turning a profit.
Our resident REIT specialist, Brad Thomas, wrote a good article on the company's recent diversification as well. Brad mentions that ARCP is focusing on a broader and stronger base of tenants, which will bring safety to the common.
This affects the preferred because the underlying company needs to be cash flowing sufficiently to pay the additional dividends. In the latest quarter, American Realty Properties made $16.3 million in operating cash flow. However, with the recent acquisition of ARCT, this will substantially increase.
The other plus with the preferred is that it is cumulative. This means that management cannot cut the preferred payments without cutting the common's dividends first. This provides an additional safety net and given that the CEO owns 2 million shares, I don't see this happening.
I believe the American Realty Properties series F preferred is a great income producing opportunity that allows investors to get a 7.75% yield that is paid monthly.
Additional disclosure: I plan on purchasing ARCP-F.