VEREIT (NYSE:VER) has been selling assets, purposefully reducing the size of its portfolio. This is a big piece of the real estate investment trust's, or REIT's, turnaround effort. Now it's set itself up to sell as much as $750 million worth of stock. Investors should be pleased by this, not worried.
Without getting into too much detail, VEREIT used to be known as American Realty Capital Properties. There was an accounting scandal, a complete shake up in upper management, and the dividend was suspended for a time. It also changed its name along the way.
The company's troubles basically boil down to a couple of big issues. First, there was what could easily be described as questionable relationships between a former CEO and acquisition targets during an aggressive acquisition binge. Second, the portfolio got too big too fast because of that binge, getting weighed down by a lot of less desirable assets.
The accounting issue aside, which is still a lingering legal problem though not an ongoing concern with current management, one of the big goals of VEREIT's new leadership was to clean up the portfolio. This is, without question, the right decision. The focus has been on getting out of joint ventures in which VEREIT didn't have control, reducing exposure to leases with no rent escalators built in, and, basically, creating a more balanced portfolio.
This push to get smaller dovetailed well with the other big goal of reducing debt, since the company was able to push sales revenues toward debt reduction. But you can't grow a real estate business by selling your properties. That's generally a recipe for declining funds from operations. Which is exactly what's taken place at VEREIT, with adjusted FFO falling around 13% year over year in the second quarter.
On the surface that sounds bad, but it's not even remotely surprising. In fact, the company pretty much knew this was in the cards. Which is why it set the quarterly dividend at $0.1375 a share. That represents around 72% of AFFO, plenty of leeway to support the dividend as the company solidifies its foundation. For reference, fellow triple net lease peer Realty Income (NYSE:O) has an AFFO payout ratio of around 85%.
Here's the thing, though, VEREIT has been hard at work on the turnaround for a while now. And the core business is starting to look a lot better. Which brings up the question of when will VEREIT move from repairing its business to growing its business? While I kind of thought it would take longer to get to the point of growth, it looks increasingly like portfolio growth is set to resume sooner rather than later.
As a REIT, VEREIT's business is pretty simple to understand on a high level. Generally speaking, REITs ink deals for new properties using bank loans or some other form of short-term financing. Then they go to the capital markets and sell stock, debt, or both to permanently fund the transaction. It's not complicated and makes complete sense.
But you can't just sell stock any old time you want, the SEC won't allow it. There's material ground work to do before you can raise some equity or debt financing. Which is what the company recently set in motion when it put in place a shelf registration for up to $750 million worth of equity sales. A shelf registration is basically a statement that VEREIT can, though it doesn't have to, sell shares at some time in the near future.
In this case, VEREIT can do multiple deals. So, if it buys a one-off property for $10 million, it can sell $10 million worth of stock. If it buys a portfolio of properties worth $300 million, then it can sell $300 million worth of stock. This is really no different than what any other REIT does.
Is 2017 the year?
It's getting late in 2016 for VEREIT to shift into growth mode. That's not to suggest it can't do it, just that the impact probably wouldn't be too big even if it did. So the shelf registration suggests that 2017 could be the big turning point for VEREIT's business plans. And far from being a dilution concern, the company's shelf registration is one more sign that things are going well for the company. Very soon, investors could be looking to a future that is about growth and they can focus less on what VEREIT is doing to right the ship.
Disclosure: I am/we are long VER.
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.