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Why Equity REIT Dividend Are Not A Mirage

|Includes:Medical Properties Trust, Inc. (MPW), O, OHI, SNH

After reading interesting articles stating that REIT dividend may be a mirage as on the one hand they distribute dividends and on the other hand raise capital that may be above the dividends distributed.

In order to demonstrate it I will take a numeric example that is based on one of my (very) few successes in investments - Medical Properties Trust (NYSE:MPW), Omega Healthcate Investors Inc (NYSE:OHI) and Senior Housing Properties Trust (NYSE:SNH):

Lets assume a CAP rate (Yield over assets) of ~ 10%; Assets generating revenue of 1,000 USD Million and a $100M income base, and assume no expenses. Lets also assume that debt to equity ratio is 1, so equity is $500 (50 shares of 10$) and debt of $500M at an average cost of 6%

The result is as follows:

Income 100

Interest expense (30)

Depreciation (20)

Net Income 50 (all income is distributed as revenue

Return on Equity 10% (or FFO/equity is 14%)

Lets also assume that investors expect a 5% dividend yield. This means that the share price should be 20$ (Net income of 50$ to a capital base of 50 stocks makes 5% yield).

In case the company raises additional capital of $500M in order to invest at properties that yield a 10% CAP rate and they manage to issue the shares around current market price the results will be as follows:

Capital raised $500 (25 shares of 20$); Assets increased by 1,000, and debt increased by 500$.

P&L report will be:

Income 200

Interest expense (60)

Depreciation (40)

Net Income 100

Return on Equity 10% (FFO/Equity is 14%)

What happens to the stock price?

Dividend per share will be 100/75 = 1.33$

Dividend yield will grow to 6.67%

In case investors still expect a 5% yield, then the stock price should grow to 26.6$, or in other words will increase by 33%.

Conclusion:

In today's environment where funding costs are historically low, many opportunities that exist, make the companies that raise capital a potential buying opportunity

Disclosure: I am long MPW, SNH, OHI.

Stocks: MPW, SNH, OHI, O