PEB - Pebblebrook Hotel Trust: Go With The 8% Yield Preferreds

Summary

• Pebblebrook essentially suspended its dividends to common shareholders during the pandemic and has yet to reinstate it.
• The company's financials continue to recover and management is targeting a higher quarterly payout later this calendar year.
• Shareholders are offered an alternative with the preferreds which come with an 8% yield on cost.

Lodging REITs pre-pandemic had mixed returns and broadly occupied a middle-of-the-ground space in terms of controversy between more stable sectors like multifamily and pertinently being disrupted areas like mall REITs. However, the pandemic and stay-at-home orders usurped the sector leading to suspended dividends that have yet to recover to their pre-pandemic levels.

Pebblebrook Hotel ( PEB ) last declared a peppercorn quarterly dividend payout of $0.01 per share , in line with its prior payout, for a 0.27% yield. It's not hard to see why the dividends have failed to recover with the pandemic immediately followed by an entrenched work-from-home culture affecting business travel and high inflation which has forced the Fed funds rate upwards to exert pressure on the variable part of balance sheets.

The REIT owns 51 hotels and resorts in the US with 12,761 guest rooms across 15 urban and resort markets. The portfolio is targeting a 50-50 business and leisure split with Boston, San Francisco, and San Diego forming its largest urban markets. Bulls here are hoping that the shift into leisure and the partial recovery of business travel will filter through to earnings and spark a revival in a long-flatlined dividend payout. Against a short interest of 12.26%, high for a REIT, bears are possibly pushing for more pain ahead with the economy likely set for turbulence this year.

Lodging In The Post-Pandemic Economic Zeitgeist

The REIT just reported earnings for its fiscal 2022 fourth quarter and saw total revenue come in at $319.6 million , a growth of around 29% over the year-ago quarter and a beat by around $10 million on consensus estimates. Same-property revenue per available room (RevPAR) for the full year increased by 65.1% over 2021 and was only 7% below the pre-pandemic figure in 2019. Same-property EBITDA for the fourth quarter was $65.2 million, a growth of 23.3% over the year-ago quarter and had recovered 73.1% of 2019 figures.

Critically, the REIT's pursuit of more leisure customers through recent acquisitions forms its main strategy to drive a recovery of its overall financials to pre-pandemic levels. Indeed, leisure travel has already surpassed its pre-pandemic numbers and does not face the same type of uncertainty that business travel faces from the specter of a recession and from now-entrenched working-from-home habits. Pebblebrook is targeting $150 million in capital investments in resorts on the back of a $110 million capital investment in 2022.

The REIT reported an adjusted FFO of $25.9 million, around $0.20 per share and up from $0.08 per share in the year-ago quarter. This was built on a balance sheet that's been somewhat derisked from its large per cent of fixed debt.

Pebblebrook has limited exposure to rising interest rates with just under 80% of its debt fixed. This included fixed convertible notes and came against $500 million in floating-rate debt with a weighted average interest cost of 6.4%, higher than the blended portfolio average of 3.5%. The next large maturity is next year when $622 million comes due.

As at the end of the fourth quarter, the REIT had total liquidity of $689.7 million. This included cash on hand of $52.3 million and $637.4 million available on a credit facility.

The Series I And A 7.95% Yield On Cost

With the commons still facing yield uncertainty, Pebblebrook's 6.375% Series I Cumulative Preferred Shares ( PEB.PE ) offer an alternative. They pay out a $1.59 coupon for a 7.95% yield on cost. As preferreds rank higher than the commons, albeit with no voting rights, the full brunt of the disruption realized by Pebblebrook over the last few years have broadly landed on the common shareholders.

The preferreds come with a cumulative clause which renders any unpaid quarterly distribution as a liability on Pebblebrook's balance sheet. Hence, the yield is almost always certain unless the REIT falls into material financial uncertainty in excess of the pandemic. They're also currently trading at $20, which is $5 below par or a 20% discount on their redemption value.

It's important to note that these came up for redemption half a decade ago on March 4, 2018, and currently cost Pebblebrook around $12.5 million in total dividend payments a quarter. This is fully covered by adjusted FFO. Hence, the risk to holders of the Series I looks increasingly distant. This of course comes on the back of an improving FFO profile from a shift to leisure and against the broader macroeconomic disruption we've witnessed over the last three years.

With a yield on cost of just under 8%, the Series I reflect a stable and greater than inflation source of income. Whilst it's an income level backed by a business still in a state of flux, it's safe nonetheless. I'm neutral on taking a position in both securities but the preferreds are a good ticker for an investor looking at lodging exposure sans the commons.

For further details see: