This morning I was able to attend Realty Income Corporation, "The Monthly Dividend Company" (NYSE:O) annual stockholders' meeting. The purpose of this article is two-fold, to capture the highlights of the meeting and discuss why I am still bullish on Realty Income for both the dividend and capital accumulation investor. This year's meeting was the first after John Case became CEO and was well attended by approximately 200 people including Bill and Joann Clark, two of the co-founders of Realty Income. Tom Lewis, the former CEO, was unable to attend, but having retired to Hawaii, he is promising to review investment opportunities there when not playing golf! (A running joke at Realty Income meetings-it is the only state the company doesn't have at least one property.)
The normal business matters were taken care of during the formal portion of the meeting. As usual, all three items up for a vote were passed. These were 7 directors to serve until 2015, the retention of KPMG as independent registered public accounting firm, and a non-binding advisory vote on named executive officer compensation. Each measure passed with an overwhelming majority of the quorum present or represented by proxy. While this is not uncommon among publicly traded stocks, one trademark of Realty Income (and many REITs) is the long-term nature of stockholders. Many in attendance I spoke with have held their shares a decade or more, including the couple I sat next to who have held their shares 14 years and honestly couldn't say specifically how many they had accumulated!
The informal portion of the meeting began with Mike McKee introducing John Case, the new CEO. The CEOs remarks were accompanied by a presentation that will likely be posted later today or tonight. Much of the information was right out of the 2013 annual report with depth and explanations from the CEO. O continues to diversify, with only one tenant holding more than 5% of the company's leases [Walgreens (WAG) at 5.6%] and a dropping share of tenants being in retail. 44% of tenants are part of investment grade companies, up from only 2% as of 12/31/2009 While retail tenants still make up nearly 3/4s of the total tenants, the company has consistently moved toward consumer non-discretionary or service providers in the retail space. This is prudent and the company continues divesting properties that are at risk from internet retailers, specifically bookstores and similar companies. Two leading examples of this highlighted today are gasoline stations (Kangaroo brand is one of the leading tenants) and L.A. Fitness. Of note, AFFO for 2013 was $2.41, compared to a dividend of $2.186, resulting in a payout ratio of 88%. Mr. Case specifically called attention to this, stating the dividend is "comfortably covered" and anticipates this to be true going forward. He then highlighted the 1st Quarter 2014 results recently released with an AFFO growing 6.7% and dividend growth was 6.4%. Conservative growth and capital employment in action-senior management is growing the dividend while maintaining a disciplined approach with the payout rate hovering around 85%. This gives the company flexibility should interest rates rise to preserve and even potentially grow the dividend.
Outlook and investment recommendations
Mr. Case briefly discussed the large purchase of ARCT made last year and the transformation of Realty Income into a significantly larger REIT. He pointed out that O has a low cost of capital and seeks to make investments with net returns of 150-180 basis points with long-term, investment grade tenants. This was also discussed during the questions from the floor. As O has a strong reputation and can complete deals with few if any contingencies, deals are able to get done that benefit investors, sellers and even tenants. While some markets are competitive and pricey, this purchasing power, including $1.2B remaining on a credit facility, makes Realty Income a strong player for attractive deals. While Realty Income has taken on debt over the past few years, Mr. Case did mention that the mortgage debt the company holds was taken on as part of deals, not originated on previously free and clear properties, and the other debt coming due in the next few years should be rolled over at lower rates if not retired outright. Future debt taken on for acquisitions will be matched with leases, using the example that ten year debt would match the average lease duration of 10.8 years the company currently has. I asked about the Series E preferred shares that become callable in June 2014, and while Mr. Case didn't specifically mention the company's plans, he stated the current market for new preferred would likely demand a coupon around 6.75%, which is about the current yield on the preferred class. From his remarks I don't anticipate the preferred shares being called, with existing cash or credit facilities being used for continued acquisitions when there are good opportunities.
I have been bullish on Realty Income for quite some time as a long-term holder as described in this earlier article. I point out the differences between the common stock and the two preferred classes. Both preferred stocks now trade at a small premium to par-one reason for my question today regarding calling the series E in June. For the long-term investor accumulating wealth, I still think the common stock is a solid investment option. Realty Income actually illustrates my view in the 2013 Annual Report, page 15, in a table titled "The Magic of Rising Dividends Over Time". Any investor purchasing shares from 12/31/2002 or earlier would have received back their initial investment or more in dividends alone, plus any capital gains in the stock price. A dividend investor would also be well-served in buying O, as the current dividend yield of 5% is "comfortably covered" to quote the CEO again. Additionally, both the preferred stock series yield over 6.5% despite trading about 2-3% above par. Yes, many analysts grade Realty Income poorly (one I follow gives it an "F" for instance) but some of that is based on price performance and change in capitalization structure. I don't think these grades take into account the improving tenant quality, still conservative capital allocation policies, and forward looking management. As always, please confirm this research with your own investigation, and best wishes for financial success!
Disclosure: I am long O. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.