2023-09-01 14:56:45 ET
Summary
- Vornado Realty Trust's Series N preferred offer an 8.7% yield against commons that have seen their dividends suspended.
- The preferreds are also currently trading at a 60% discount to their $25 par value.
- Reinstatement of the common share dividends from the start of 2024 should help bolster the bull case for the commons.
We are approaching the end of a year that has been broadly characterized by disruption, chaos, and intense volatility. Whilst Vornado Realty Trust ( VNO ) would eventually be forced to suspend its common share dividends in response to debt maturity pressures, the ticker is currently up 14% year-to-date. I've been long the Series N preferreds ( VNO.PR.N ) since May, in response to what was then a double-digit yield on cost and a marked discount to its $25 per share par value. However, the disruption of 2023 from a Fed funds rate that currently sits at a 22-year high of 5.25% to 5.50% is set to continue, with the Fed set to keep rates higher for longer. What's the play here?
Vornado's common shares are actually currently swapping hands for a small premium to a tangible book value of $4.42 billion as of the end of its fiscal 2023-second quarter. But whilst tangible book value has been somewhat flat over the last five years, the commons have shed their premium which was north of 100% in 2019 but has since converged, briefly trading at a discount in response to the March banking crisis. Part of the play here is built around a reinstatement of the dividend from the start of fiscal 2024 set against commons, which could move to trade at a more marked premium to tangible book value.
Debt And The Dividend Reinstatement
When Vornado suspended its dividend in April, it was made clear that the proceeds would be used for debt repayments and to partially fund a $200 million share buyback authorization announced concurrently. The Manhattan office real estate investment trust, or REIT, had previously cut its quarterly cash dividend by 29% to $0.3750 per share, around $72 million per quarter. Hence, the ticker currently has a roughly 6% annualized forward implied yield were the dividend to be reinstated at its reduced level from the start of 2024. However, there is some uncertainty around what the reinstated dividend will be as Vornado presses ahead with asset sales to address its debts.
Vornado's mortgages payable were $5.72 billion as of the end of its second quarter, with its total debt of $8.28 billion when mortgages payable is aggregated with unsecured debt of $2.56 billion. Interest and debt expense was $173.4 million for the six months as of the end of its second quarter, up $58.6 million from $114.8 million in the year-ago comp on the back of the marked rise in the Fed funds rate. So, whilst the market is currently pricing a 93% chance that the Fed will keep rates unchanged at its upcoming FOMC meeting on the 20th of September, the equity REIT faces elevated interest until rates normalize over the next few years.
Vornado is set to dispose of four Manhattan properties and its Armory Show art fair for a total consideration of $124 million and for a roughly $20 million gain. The four properties are high-quality street retail properties. Further, the REIT is also exploring the sale of its Farley Building , let to Meta Platforms (META) for 15 years under a lease signed in 2020. The Farley building is set to pay Vornado around $1 billion in rent through the 15-year duration of the lease. Hence, whilst the asset sales should enhance Vornado's balance sheet , they will see the REIT forfeit future rental revenue and funds from operations.
Share Buybacks And The Preferreds
Vornado reported second-quarter revenue of $472.36 million , up 4.2% over its year-ago comp and a beat by $27.9 million on consensus estimates. Adjusted FFO for the second quarter was $140.7 million , around $0.72 per share, a beat by $0.08 on consensus estimates but down from $160 million and $0.83 per share in the year-ago period. This was used to fund the purchase of 1,722,295 common shares, at $13.48 per share and a $23 million total consideration, during the first six months of 2023.
I think the preferreds form the better overall pay here, with the REIT only spending around $15 million per quarter across its four preferred shares. The asset sales for debt repayment also reduce the overall specter of risk, with the Series N currently swapping hands for $14.89 per share, a roughly 60% discount to their par value. The Series L, M, and O preferreds are also trading for similar discounts.
To be clear on my position, the Series N preferreds pay out a $1.3125 annual coupon for an 8.7% yield on cost and can currently be bought for 60 cents on the dollar. This yield is in excess of the uncertain implied yield on common shares that are currently trading at a small premium to their tangible book value. Hence, whilst the commons remain a hold, the preferreds form a cautious buy here.
For further details see:
Vornado Realty's 8.7% Yielding Preferreds For 60 Cents On The Dollar