2023-11-07 07:35:00 ET
Summary
- WPC previously enjoyed a reputation as a very stable, defensive, and slightly growing high yield stock.
- However, investors have been let down by management in the form of an impending 20% dividend cut.
- We look at two other ways in which WPC management is mistreating shareholders through its accelerated exit from office.
- We also take a look at WPC's valuation right now.
W. P. Carey (WPC) recently completed its spinoff of Net Lease Office Properties (NLOP) and is well on its way toward selling off its remaining office assets. While management appears to be celebrating this strategic initiative, in this article I will list three reasons why pre-spinoff announcement owners of WPC stock have been treated poorly by management through this move.
#1. A 20% Dividend Cut Immediately After Hiking The Dividend Damages Investor Trust
One of WPC's biggest claims to fame was its impressive track record of growing its dividend year after year, and management made a big point of hyping it up too. For example, in their quarterly investor presentations, they would always dedicate an entire slide to showing off their long dividend growth track record, stating things like "History of Consistent Dividend Growth: W. P. Carey has increased its dividend every year since going public in 1998" and "Conservative and stable payout ratio since conversion to a REIT in September 2012."
To me, this messaging seemed to clearly indicate to investors that WPC offered a dividend that could be counted on through thick and thin and would grow it every year too, even if only at a snail's pace. Nowhere anywhere was there a hint of them looking to "reset" the dividend in order to accelerate growth. In fact, during their 2023 REITweek presentation back in June of this year, WPC's CEO hyped up its large dividend as a big part of the investment thesis, claiming that the stock was deeply undervalued, and even implied that no changes to capital allocation policy were needed to fuel their growth, stating:
this is a buying opportunity, in our mind. I mean, there's a disconnect because...we're very well positioned from an internal growth standpoint. We don't need to do as much external growth deal volume as many of our peers because we have the internal growth driving a big portion of that...we're very well set up from a balance sheet perspective to take advantage of the rising cap rate environment. And frankly, where we position ourselves for a recession, I think that's something that we've proven that we performed quite well during down cycles. And when you layer on top of that a 6% dividend yield, we think that it's an opportunity to acquire quality at an interesting opportunity right now.
Perhaps worst of all was the fact that on September 14th, management announced an increase in its quarterly dividend only to turn around a mere one week later and tell investors that it would be cutting (though they opted for the more strategic-sounding term "dividend reset" over the more accurate term "dividend cut") its dividend meaningfully lower:
We anticipate a one-time dividend reset during the fourth quarter...We expect that to translate to a one-time reduction of approximately 20% in the fourth quarter, compared to our most recently declared dividend.
Investors who believed management's quarterly investor presentation slide, bought the CEO's pitch of their lucrative dividend yield at investor conference after investor conference, and who waited patiently during nothing more than token dividend hikes through WPC's exit from its asset management program under the belief that accelerating dividend growth was just around the corner, were just dealt a blow by the hefty 20% dividend cut.
While WPC may be able to accelerate its annual dividend growth rate from a 1-2% range to a 4-5% range once WPC gets past the numerous headwinds that it faces in 2024, it will take a long time before that accelerated dividend per share growth rate could match what WPC shareholders would have been getting in dividend income if the dividend were never cut in the first place and that 20% of extra dividend income had simply been reinvested in purchasing new WPC shares.
#2. The Spinoff & Asset Sales Are Destroying Significant Shareholder Value
Another reason why this sudden move by management is bad for pre-spin-off WPC shareholders is that the spinoff and asset sales are destroying significant shareholder value in four ways:
- The hit to investor trust in WPC as a dependable high-yield dividend growth stock led to a re-rating lower of the stock price as many retail investors sold and fled to more reliable triple net lease blue chips like Realty Income (O).
- The aggressive pace of the sale of its office properties at a time when interest rates are elevated and office sector sentiment is very poor is resulting in management accepting prices less than NAV for these assets. Given that nothing was said on the earnings call about the cap rates being received on its office property sales - but much was said by management about the cap rates they are getting on new acquisitions - it can be safely assumed that these office properties are being sold at high cap rates, thereby diluting shareholder cash flow per share and NAV per share in the process.
- The lag time between the aggressive sale of these properties and WPC's ability to redeploy the proceeds is also serving as a drag on cash flow per share, with an analyst pointing out on the earnings call that "it sounds like there is some dilution associated with the timing lag between when you sell the properties and reinvest the proceeds."
- Last, but not least, the NLOP spin-off has been disastrous for shareholders so far, with the stock price crashing by over 35% in the first few days since it started trading:
While it is true that the spin-off greatly accelerated WPC's exit from office real estate, helped clean up its balance sheet a bit, and the net proceeds from these asset sales that it is executing will further boost WPC's liquidity position and help it address upcoming debt maturities in a responsible manner, the overall effect to shareholder value is clearly net negative.
#3. The Suddenness Of The Office Segment Exit Is A Bad Look For Management
Given the accelerated pace of the office sector spinoff and asset sales, I think it is likely that this was a move that WPC management had been considering for at least several months prior to announcing it, if not longer. It would have built a lot more trust with shareholders if management had communicated ahead of time that they were undergoing a strategic review to determine the best way to create long-term value for shareholders and address WPC's cost of capital and office portfolio concerns.
In fact, according to their comments on their Q2 earnings call (held on July 28th, which was less than two months prior to their announced departure from office real estate), WPC was not even considering such a move and seemed happy to continue to gradually reduce their exposure to office. An analyst asked them about it on that call, stating:
Can you just remind us of your general views on [the office] portfolio and how you think about maybe expirations that are coming due soon?
Management replied with:
I think broadly, as you mentioned, we have not been buying any office anytime recently, probably over the past five years. And our office exposure has come down significantly from over 30% five years ago to where it is now about 16%. And that decline has occurred because we have not been acquiring any. We have over that period, kind of sold more office as a percentage of our total sales. And really, we've been over-allocating new capital into industrial warehouse and maybe retail to a lesser extent.
So, the strategy around office, say, is consistent there. I think ultimately, we do expect to move our exposure to zero, but there's really no kind of specific time frame we're looking at ...[our lease expirations are] pretty well staggered and really pretty skewed late in the decade and beyond...So, it's manageable, and we're quite focused on those office expirations for sure.
Based on these remarks, there seemed to be no intent to do anything dramatic to disrupt the status quo with WPC's office portfolio, nor did there seem to be much concern about it either. Yet, a short while later WPC announced that they were fleeing the sector as quickly as possible, and then on their latest earnings call, management came out with a much more bearish perspective than they sounded a mere quarter ago:
Proactively exiting our office exposure over a short period of time also ensures we won't face a drag in our earnings over multiple years or the risks associated with large lease expirations and increased vacancies driven by declining demand for office.
Our view is that the leasing market, financing market and investment sales market for the office sector will all remain under pressure and that office assets will see worse outcomes going forward than they've seen in the past, which will be particularly impactful on a single-tenant office portfolio with a declining weighted average lease term. These factors all contributed to our conviction to address office more proactively while it still has a reasonable amount of lease term remaining and to provide investors with a cleaner and clearer path for earnings growth on our core portfolio.
While I certainly can understand their bearish view on office real estate, fundamentals did not change that dramatically in such a short period of time to prompt such a dramatic shift. To foster trust and goodwill with shareholders, management could have at the very least been more upfront with shareholders about the process they were going through in determining whether or not to exit the office portfolio at an accelerated pace.
Investor Takeaway
Between throwing conservative dividend investors under the bus, destroying significant shareholder value through its hasty exit from its office properties, and seemingly contradicting some of its own past statements, WPC management is dealing longtime shareholders a bad hand. While management is trying to put as much lipstick and makeup on this move as they can, the facts remain:
- WPC shareholders will receive far less in total dividend income for the foreseeable future.
- WPC NAV per share is being meaningfully destroyed.
- WPC management has lost much of its credibility.
For further details see:
20% Dividend Cut Alert: W. P. Carey Is Putting Lipstick On A Pig