2023-07-14 07:30:00 ET
Summary
- Healthcare real estate investment trusts (REITs) are attractive due to their resilience during economic downturns and the growing demand for healthcare services.
- Omega Healthcare and Medical Properties Trust are two high-yield healthcare REITs, with the former focused on senior living and the latter on hospitals.
- Despite Omega Healthcare's stronger balance sheet, Medical Properties Trust offers a higher dividend yield and trades at a cheaper valuation, making it the more attractive investment.
Article Thesis
Real estate investment trusts ('REITs') offer high dividend yields and have historically been high-return investments. The healthcare REIT space includes a couple of very high-yielding REITs, including Omega Healthcare Investors, Inc. (OHI) and Medical Properties Trust, Inc. (MPW). In this article, we will pitch these two against each other to see which of these high-yield healthcare REITs is more attractive today.
Healthcare REITs
Every business, consumer, and government agency uses real estate in one way or another. Not surprisingly, a gigantic sum of real estate properties exists, across very different markets. Not all of these properties are equally well-positioned for the future, of course -- compare, for example, a lower-grade mall in a not densely populated area with a high-end residential property in a fast-growing state, and it is pretty clear that the latter has a much better chance of remaining in demand for a long period of time.
Healthcare real estate is one subsector of the vast overall real estate market that includes properties such as doctors' or medical offices, hospitals, senior living properties, and so on. All of these healthcare properties share some advantages that could make them attractive to investors:
- These properties are needed, no matter the strength of the economy. Even during recessions, people require doctors, hospitals, assisted living services, and so on, making healthcare real estate resilient versus economic downturn, in contrast to hotels, malls, etc.
- Healthcare real estate is hard or impossible to replace by digitalization. While some retail real estate is not needed any longer due to being replaced by e-commerce offerings, treating patients via the Internet is impossible. Diagnosing patients via the Internet might be able in some cases, as there are telehealth offerings on the market, but overall, healthcare is very much an "in-person" market that requires dedicated real estate.
- Healthcare is a growth market and benefits from demographic change. Aging populations require more and more medical care, which results in increasing demand for doctors' services, hospital services, and senior living services. With increasing demand for these healthcare services, the growth outlook for the real estate that is needed to offer these services is very positive as well. The so-called " silver tsunami ", the huge increase in elderly people living in the US over the coming years, should drive overall healthcare spending and should thus also be beneficial for the owners of the real estate that is needed for the required healthcare services.
Between these factors, healthcare real estate seems like an attractive property class, as the combination of it being "mission-critical" for a functioning society, a solid growth outlook, and the aforementioned resilience versus macro headwinds is pretty attractive. Of course, that does not mean that every healthcare REIT is an attractive investment, as factors such as valuation, debt, and company-specific risks have to be considered as well.
Omega Healthcare Versus Medical Properties
Two large healthcare REITs that are receiving a lot of attention from retail investors, primarily due to their large dividends, are Omega Healthcare and Medical Properties Trust. Omega Healthcare is a senior living focused REIT, while Medical Properties Trust mostly owns hospitals. Let's compare these two companies based on a couple of perspectives.
OHI Versus MPW: Business Models
While both companies are active in the healthcare real estate space, their business models differ. With its senior living (skilled nursing) focus, Omega Healthcare is very exposed to changing demographics. It should be one of the biggest winners from the "silver tsunami" over the coming years. Medical Properties Trust, meanwhile, should benefit from changing demographics and an aging population as well, as older people do, on average, visit the hospital more frequently. But it is not as widely exposed to an older population compared to Omega Healthcare and other senior living real estate players. Medical Properties Trust primarily owns hospitals in the United States, but it also has international operations in some other countries -- in total, the company is active in 10 different countries, where it owns around 440 properties in total. This gives the company some geographical diversification, which can be an advantage when regulations are unfavorable in one of its markets. On the other hand, MPW's international operations introduce some currency exposure that can lead to some volatility in its results, all else equal. Omega Healthcare is active in the US and the UK and is thus less diversified on a geographical basis. It owns around 900 properties across these two markets.
The properties of both companies can be described as "essential", while MPW's hospitals might be even more important and hard-to-replace compared to OHI's senior living properties. After all, seniors can also get help at their own homes in some cases, meaning the senior living facilities are not the "only route" for elders, while at-home hospitality services are impossible.
From a business perspective, I'd thus say that both companies look more or less equally good: MPW's assets are even harder to replace and even more important, while OHI has the advantage when it comes to benefitting from changing demographics.
OHI Versus MPW: Debt
Interest rates have risen massively over the last year and a half, which has made some investors anxious when it comes to the debt on the balance sheets of REITs. While REITs, on average, currently do not employ a lot of leverage in terms of net debt versus net asset value, relative to where this ratio stood in the past, it still makes sense to look at debt levels on an individual company basis.
Omega Healthcare ended the most recent quarter with $4.9 billion of long-term debt, while current debt stood at $400 million, for $5.3 billion of total debt. At the same time, cash stood at $200 million, for just above $5 billion of net debt. In contrast, the company's gross (undepreciated) real estate value is $8.8 billion, for a net debt to undepreciated real estate value ratio of 58%. Omega Healthcare has a BBB- credit rating, which is in the investment grade sphere. The company's debt to normalized EBITDA ratio stands at 5.9, which isn't low, but not dramatically high, either -- especially when we consider the resilient nature of OHI's business.
Medical Properties Trust's net debt stands at $10.2 billion as of the end of the most recent quarter, factoring in cash on the balance sheet, short-term debt, and long-term debt. That's equal to 78% of MPW's undepreciated property value, meaning MPW operates with higher debt levels than OHI. MPW has meaningful other assets on its balance sheet, however, including $1.3 billion of investments in securities and debt. MPW's net debt to EBITDAre leverage ratio was 7.2 at the end of the first quarter, which was meaningfully higher than the leverage ratio at OHI. Pending transactions will result in this ratio dropping to the mid-6 level, according to management. That's not threatening at all, I believe, but OHI nevertheless has a somewhat stronger balance sheet. In terms of debt, OHI thus looks like the better choice.
OHI Versus MPW: Dividends And Valuation
Last but not least, we have to look at dividends and valuation. Today, OHI offers a dividend yield of 8.4%. That is pretty high, but way lower compared to the 11.8% dividend yield that is available from MPW. In other words, investors get around 40% more income when they put their dollars in MPW instead of OHI.
And yet, at the same time, the coverage ratio is a lot better at MPW, despite the higher dividend yield: OHI will pay out 96% of this year's expected funds from operations via dividends, while MPW will pay out a comparatively low 75% of its FFO via dividends this year. A way higher dividend yield, in combination with a way lower dividend payout ratio, makes MPW the clear winner from an income perspective.
Looking at valuations, let's start by saying that OHI is far from expensive. Shares trade for 11.5x this year's expected FFO right now, which translates into an FFO yield of 8.7%. Medical Properties Trust, however, is way cheaper: Its shares trade for just 6.3x this year's funds from operations, which translates into a very high FFO yield of 16%. While OHI is not trading at a demanding valuation, MPW is an outright bargain, meaning that it looks better from a valuation perspective. The same holds true when we look at the enterprise value (which accounts for debt and cash on the balance sheet) to EBITDA multiples of the two companies, as MPW, again, is cheaper than OHI.
Final Thoughts
Both Omega Healthcare and Medical Properties have advantages and disadvantages. OHI will benefit more from changing demographics and its balance sheet is stronger, while MPW's assets are even harder to replace compared to those of OHI. At the same time, MPW trades at an outright cheap valuation and offers a way higher dividend yield, which is why it is my favorite among these two high-yielding healthcare REITs today. That does not mean that OHI is a bad investment, however, and I hold a (smaller) position in OHI as well. From a timing perspective, MPW also seems like a better purchase today, as it trades close to the 52-week low, while OHI trades close to its 52-week high right now.
For further details see:
Omega Healthcare Vs. Medical Properties: Which High-Yielder Is Better?