2023-08-09 14:15:04 ET
Summary
- Medical Properties Trust, Inc. offers a high dividend yield, but recent earnings confirm that the dividend may not be sustainable.
- The Q2 2023 earnings were below estimates on the top line, but above expectations for funds from operations.
- The company's liquidity position is concerning, with upcoming debt maturities and a negative cash flow profile. A dividend cut is likely.
Medical Properties Trust, Inc. ( MPW ) offers a very high dividend yield, but recent earnings have confirmed that its dividend is not sustainable and investors should consider it as a trap.
As I’ve analyzed in previous articles , I’m bearish on MPW due to some long-term fundamental issues, of which its poor dividend sustainability is one of my major concerns. While its share price has recovered somewhat over the past couple of months supported by a strong equity market, MPW still offers a dividend yield above 13%, which is clearly attractive for income investors.
However, as I’ve covered previously , MPW does not have enough liquidity to cover upcoming debt maturities and a dividend cut seems very likely in the coming months. As the company reported quite recently its Q2 2023 earnings , in this article I analyze its most recent earnings and update its investment case to see if MPW remains a "sell" or not.
Since my first article on MPW back in March , MPW’s total return (including dividends) is negative by some 13%, a much worse performance than compared to the S&P 500 Index (SP500) during the same period as shown in the next graph, thus buying MPW solely based on its high dividend yield is clearly a trap.
Article performance (Seeking Alpha)
Earnings Review
MPW has recently reported its Q2 2023 earnings , which were below estimates on the top-line but above expectations regarding its funds from operations ("FFO"). Despite that, its shares tanked by more than 14% on the day, a very bad market reaction to earnings.
Earnings surprise (Bloomberg)
In the second quarter of the year, MPW’s revenue amounted to $337 million, a decline of 16% YoY, and below market expectations of about $351 million. On the other hand, expenses increased significantly compared to the same quarter of last year, namely depreciation & amortization which increased to $364 million (vs. $84 million in Q2 2022) due to lease intangible amortization related to the early lease termination of five Utah hospitals now leased to CommonSpirit.
This pushed MPW’s GAAP earnings into a loss of $42 million in the quarter, but given that depreciation & amortization is a non-cash expense, a better measure of profitability is Normalized Funds from Operations ("NFFO").
MPW’s NFFO in Q2 2023 was $285 million, an increase of 4% YoY, while its NFFO per share was $0.48 (vs. $0.46 in Q2 2022). For the full year, the company lowered its NFFO guidance to $1.53-1.57 per share, while at the beginning of the year it expected NFFO to be between $1.50-1.65 in 2023. Given that tenant Prospect continues to not make rental payments, it’s no surprise that MPW is tightening its NFFO guidance towards the bottom of this range, as the company said that to reach the upper side of the range it would depend on Prospect resuming payments.
In Q2, MPW reported a $95 million write-off of unbilled rent related to Prospect, and there were some concerns that tenant Steward could also get into financial distress and, potentially, would stop making rent payments in the future. However, Steward has been able recently to refinance its asset-backed credit facility which would mature by next December, in which MPW participated with up to $140 million, and, therefore, the liquidity position of its largest tenant has improved and is now less of a concern.
Financial statements (MPW)
During the quarter, MPW was also able to close the sale of seven hospitals in Australia, of a total of eleven disposals announced a few months ago, enabling MPW to reduce debt by AUD 730 million. The company expects to close the sale of the remaining hospital in the next couple of quarters, which will also be used to reduce debt, easing its refinancing needs for 2024 (when its loan tied to these assets was due).
While these disposals reduce the company’s indebtedness and refinancing needs in the short term, MPW will lose some $54 million of annual rental income and save some $20 million on annual interest expense, thus on a net basis it will impact negatively MPW’s FFO and cash flow going forward and put further pressure on the company’s dividend sustainability.
Additionally, after the end of Q2, MPW also completed the sale of three hospitals to Prime for about $100 million, which the company intends to use to reduce debt. Indeed, MPW’s management focus is nowadays focused on debt reduction, as capital markets remain largely shut for companies with a riskier credit profile. Investors should notice that MPW has a "high yield" credit rating and its current bonds trade at very high yield levels, thus issuing new debt is quite expensive for the company and, therefore, its goal is to pay down debt due in the coming years instead of rolling it over.
For instance, its upcoming debt maturity of £400 million bond (December 2023) currently has a fixed rate of 2.55%, while new debt in the sterling market would certainly be priced with an interest cost above 11%, considering MPW’s 2026 bond outstanding that is currently yielding around 10.5% and usually credit investors require a higher yield to enter into a new bond.
While MPW’s current revolving credit facility still has an amount outstanding that allows the company to repay its upcoming maturity of the sterling bond, its refinancing needs in the coming years are concerning. In 2024, MPW will have only £100 million to refinance following the sale of the Australian assets and AUD loan payment, but it has $1.4 billion to refinance in 2025 and more than $2.7 billion in 2026. This means that more than 45% of MPW’s total debt matures in the coming three years, which is concerning and puts significant pressure on MPW’s liquidity position in the medium term.
This happens because MPW’s cash position is not impressive and its operations are free cash flow negative, thus MPW relies heavily on capital markets to maintain its dividend and refinance its current bonds and loans outstanding. Due to this negative cash flow profile, MPW’s balance sheet leverage has increased in recent quarters and its net debt-to-adjusted EBITDA was 6.9x at the end of last June, a higher leverage ratio compared to other healthcare REITs.
Regarding free cash flow, as the company has not yet reported its 10-Q related to Q2 earnings and unfortunately it does not disclose its cash flow statements in its quarterly supplemental data, it’s not possible to know exactly MPW’s free cash flow in the quarter. Nevertheless, considering its Q2 AFFO of $242 million and usual quarterly dividend payments of around $175 million and capex of more than $100 million per quarter, I estimate its free cash flow to be negative by more than $30 million from its operations.
This does not bode well for MPW’s dividend sustainability over the medium to long term, with dividends being financed by increasing debt levels rather than cash generated by its operations, a worrying sign concerning dividend sustainability. Therefore, while I don’t expect MPW to enter into financial distress in the short term, it clearly needs to reduce debt and its annual dividend payments of about $700 million are not sustainable and MPW needs to reduce this cash burden to have a sustainable business model over the long term.
Moreover, while MPW’s dividend distributions amounted to some $350 million during the first six months of 2023, its GAAP net income was a loss of $9 million, thus MPW can easily suspend its dividend and maintain a REIT status.
Conclusion
Medical Properties Trust, Inc. offers a high dividend yield, but this I think is clearly a trap because its dividend is not sustainable and a cut seems likely in the coming months. Its recent operating performance remains relatively weak and asset disposals will put further pressure on its cash flow generation in the next few quarters, thus MPW remains a risky income investment and not a good play despite its very high dividend yield.
For further details see:
Medical Properties Trust Stock's High Dividend Yield Is A Trap