Recent Buy: Omega Healthcare Investors
Summary
- History and current state.
- What is OHI's fair price?
- What I did, and what I'm going to do.
Every month I write an article on 2-3 stocks that are on my radar for that month. In that article, I give a brief overview of each stock. Today, I will be going a little more in depth with one of the companies that I mention I am pretty sure you guys can guess which.
I added more shares to my portfolio with the purchase of Omega Healthcare Investors, Inc. (NYSE:OHI).
38 shares @ $31.18 on 8/2/2017.
This is actually my third buy of this company. I am now full position with 127 shares and a cost basis of $33.27. I am in the red right now and that is ok. I will now hold this stock for a long time unless there is a dividend cut.
My up-to-date portfolio can be found on my website.
Source: 2017 June Investor Presentation
About the Company
Omega Healthcare Investors, Inc. is a self-administered real estate investment trust (REIT), providing financing and capital to the long-term healthcare industry with a particular focus on skilled nursing facilities and assisted living facilities, independent living facilities, rehabilitation and acute care facilities located in the United States and the United Kingdom.
Fundamentals
Like the picture below says. "Why invest in OHI?"
Being ranked 2nd among healthcare REITs and 9th in total shareholder return of 247.1% in a 10-year total return is on reason to invest in OHI.
The second reason is that the company has 19 consecutive quarterly dividend increases. Actually, it is now 20 consecutive quarters from its most recent increase of 1.6% to $0.64 a share.
Lastly, the third reason is that OHI is smart with its money.
Source: 2017 June Investor Presentation
Now let's get to the fun stuff. Let's see the fundamental of OHI for the past 10 years.
Revenue grew at a Compound Annual Growth Rate (CAGR) of 21.17% from $160 million in 2007 to $901 million in 2016. This year, revenue is expected to be around $946 million. Analysts anticipate $940 million for the low end of this year. Also, analysts expect 2018 to be around $999.1 million in revenue.
Therefore, revenue looks like it will continue to grow for this year as well as next year.
Net income increased from $69 million in 2007 to $366 million in 2016, which gives us a CAGR of 20.37% over this 10-year period. I am liking what I am seeing here.
Currently, net margin is an outstanding 45.16% trailing twelve months (TTM). Basically, 45% of the revenue coming in turns into profit. Another thing to look at here is that net margin has increased every year since 2010 which had a net margin of 19.10%.
With revenue continuing on the rise, net margin looks like it will continue to rise as well.
When looking at REITs, we must look at free cash flow or funds from operations (FFO) instead of earnings per share (EPS). Since 2007, FFO CAGR has been 10.61%. In 2007, OHI's FFO was $1.38, and in 2016, it was $3.48. Analysts expect 2017 FFO to be around $3.44 and in 2018 to be $3.52 FFO.
Now let's talk about the dividends. Like I mentioned above, OHI has been increasing dividends for 20 consecutive quarters. However, the company has been increasing its dividend for 15 straight years. It has a five-year dividend growth rate of 8.8%.
OHI has a current dividend yield of 8.27% with the five-year dividend growth rate being at 8.8%. This means that OHI has a Chowder Rule of 17.07 (Chowder Rule is when you add the current dividend with the five-year dividend growth rate). Normally for REITs, you would like a Chowder Rule of 8 or higher, but OHI is giving you 17.07. WOW!
All this dividend talk has me excited. Such a high current yield with great dividend growth and history. Can OHI really pay for all this and continue this trend for years to come?
Yes, it can.
OHI has a dividend payout ratio of 70% based on 2016 FFO. Seeing that this year and next year estimated FFO is higher than 2016, it looks like the dividend is safe and going to continue to increase.
Risks/Uncertainty
Since OHI is a REIT, the risk is very similar to an individual owning rental property.
OHI has risks of tenants/operators not paying or not resigning after the lease ends.
One risk I see is an occupancy rate trend, which can be seen below. The rate has been on a downward trend. This is concerning, but in the long run, it should get better. You will see how it will get better below.
Source: 2017 June Investor Presentation
This is the other risk I mentioned when current tenants' leases expire. As you can see, after 2021, 90% of OHI portfolio expirations occur.
Source: 2017 June Investor Presentation
With all the risk, there is a bright side. Below is a chart of future age demographics. This will drive SNF occupancy beyond capacity.
Source: 2017 June Investor Presentation
Valuation
So how much should you pay for a great company like OHI?
The normal P/FFO for 10 years sits at 12.2 as you see in the below picture from F.A.S.T. Graphs. OHI is momentarily at 9.0. The five-year P/FFO average is also 12.2. This metric is a great indicator that OHI is indeed undervalued when looking at normal P/FFO.
Below is a picture from fastgraphs.com. Whenever the black line is under the orange line and/or blue line (depending on the situation for a particular stock), it is considered to be undervalued.
If you look at the FFO (orange line), we see that OHI is way below that level. Based on the orange line, OHI should be around $51.60 a share. Based on normal P/FFO, the company should be around $42.11 a share. In this situation, I would look at the normal P/FFO line when looking at this graph. Either way, OHI is undervalued at the current price.
Source: Fastgraphs.com
In this graph, I like to look at when a company had the lowest multiple. In this case, OHI had a one-year normal P/FFO of 10.2. Based on that information, it will be getting a total rate of return of 27.78% by the 2018 year end if it hit that P/FFO. Those are really impressive numbers right there.
Source: Fastgraphs.com
Another great indicator to find if a company is undervalued is looking at the dividend yield history. The five-year dividend yield average is 6.5%. OHI is currently at 8.27%.
As you see in this chart, this is the highest the dividend has been since six years ago.
Source: Simply Wall St
So how much should you pay for this stock? My assumption of the DDM model is 5% growth rate for the next three years. The years after that, I give it a 4% growth rate. I also used a 10% discount rate.
- My DDM analysis: $43.81
- CFRA price: NA
- Yahoo analyst price target: $32.06
- F.A.S.T. Graphs: $42.11 (using the five-year normal P/FFO average)
Averaging out the three fair price estimates gives us a fair value of $39.33. OHI is currently at $30.95. This means that OHI is 21.31% undervalued.
Conclusion
OHI is a great company to have in my portfolio. I always look forward to the quarterly dividend because I get excited to see what kind of dividend increase it will approve.
I currently have 127 shares of OHI. Like I said at the beginning of this article, OHI is now a full position and I do not plan to add more shares anytime soon. With the purchase of 38 shares and the company paying a dividend of $0.64 a share, this will increase my annual dividend income by $97.28. My forward annual dividend income is now $4,007.74.
These are just recommendations, and I recommend you to do your own due diligence before investing in any of the stocks listed.
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Disclosure: I am/we are long OHI. 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.