2023-04-07 11:29:41 ET
Summary
- WPC is arguably the best high yield REIT buy in the market today.
- The latest pullback in the share price is a great opportunity to boost your passive income.
- We discuss three reasons why WPC is a great buy today and the big risk to monitor moving forward.
W. P. Carey (WPC) is arguably the best high yield REIT (VNQ) buy in the market today. As a result, we view the latest pullback in the share price as a great opportunity to boost your passive income:
In this article, we discuss three reasons why WPC is a great buy today and the big risk to monitor moving forward.
Reason #1: Very Attractive, Sustainable & Growing Dividend
WPC has an extremely impressive track record of growing its dividend through thick and thin. While other industrial real estate oriented triple net lease peers such as Global Net Lease (GNL) and even Spirit Realty (SRC) have slashed their payouts in the past, WPC has continued to grow its payout year after year for about a quarter century.
When you combine this exceptional track record with the strong AFFO coverage of the current dividend (~1.24x based on 2023 consensus analyst estimates for AFFO and dividends per share) and WPC's world-class asset portfolio that has generated remarkably stable cash flow through all sorts of economic cycles including the COVID-19 lockdowns and the Great Recession, the dividend is very safe.
On top of that, the dividend growth rate could potentially accelerate in the future thanks to the following tailwinds:
- The majority of its rent is CPI-linked and many of these bumps are only now flowing through to the bottom line as there is some lag between the CPI numbers coming out and the rent bumps being applied.
- WPC has an enormous investment opportunity in front of it (especially now with many lenders pulling back on investments in commercial real estate, creating greater demand for alternative financing formats such as sale leasebacks from WPC) and is taking full advantage of it with a total investment volume of $1.42 billion in 2022 and management signaling for another very strong investment year in 2023. Moreover, cap rates have begun to rise in response to high interest rates, making investments in new properties more accretive for AFFO per share growth.
Reason #2: Very Low Balance Sheet Risk
Between continuing to grow its AFFO per share while also increasingly focusing its portfolio on high quality recession-resistance industrial real estate, WPC's overall financial strength continues to grow. This is reflected in its recent credit rating upgrade from S&P to BBB+, putting it firmly in the upper echelon of REITs in terms of credit rating.
Another interesting item to point out on WPC's balance sheet is that WPC's near-term debt maturities (no bonds maturing until 2024 and only mortgages maturing in 2023) carry among the highest interest rates on its balance sheet, while its really low rate debt is locked in for quite a few more years. As a result, its cost of debt should remain relatively stable for the foreseeable future despite the high interest rates facing the sector at the moment.
Finally, they have a lot of liquidity, meaning that their need to access debt markets while interest rates are elevated to fund acquisitions should be minimal. As of the end of 2022, WPC had ~$560 million of forward equity available to settle, only $276 million drawn on their $1.8 billion revolving credit facility, and overall total liquidity of just over $2.2 billion. Management stated on the Q4 earnings call that this provides ample liquidity to execute on their near-term pipeline on a leverage-neutral basis.
Reason #3: Attractive Valuation
Last, but not least, WPC trades at a compelling valuation after the sell-off. Despite having a comparable balance sheet to peers like Realty Income ( O ) and probably a better overall real estate portfolio with better growth potential, WPC is clearly trading at a discount to O:
REIT | P/AFFO | EV/EBITDA | Dividend Yield |
WPC | 13.86x | 16.40x | 5.8% |
O | 15.69x | 17.14x | 4.9% |
As the table above shows, WPC's EV/EBITDA, P/AFFO, and Dividend Yield all signal that it is much more attractively priced than O at the moment.
When you combine WPC's potential for additional valuation multiple expansion, it's very sustainable and likely to grow ~5.8% forward dividend yield and expected mid-single digit annualized per share AFFO CAGR in the coming years (from a combination of 3-4% same-store growth due to CPI-linked escalators, another 2% growth from reinvested retained cash flow, and another 1-2% growth from accretively issued and invested debt and equity, offset slightly by lightly increased debt costs and the U-Haul lease maturity) the path to 12-15% annualized total returns alongside low risk over the next half decade looks quite promising.
Risk To Consider
The main risk facing WPC is that it has a large $38.8 ABR lease to U-Haul with an attractive property repurchase option for U-Haul that kicks in during April of 2024. As a result, it is expected that U-Haul will exercise its repurchase option and WPC will have difficulty reinvesting the proceeds at a similar level of accretion barring a rapid rise in cap rates over the next year. This is a big deal because U-Haul is its largest tenant and this lease represents 2.8% of its total ABR. That said, cap rates have begun to rise, so this will offset some of this headwind and WPC plans to have plenty of immediate opportunities to reallocate the capital in order to minimize drag on cash flow.
Moreover, 16.2% of its total debt matures next year and 20.8% of its debt matures in 2025. This wall of debt maturities puts some pressure on the balance sheet as interest rates could very well remain somewhat elevated by then, though there is also a decent chance that they could have pulled back as well in the event that a recession has hit by then. Moreover, with the aforementioned commercial real estate lender tightening in the wake of the recent banking crisis, there is always the risk that this trend could accelerate and make WPC's refinancing efforts more difficult.
WPC Debt Maturities (Investor Presentation)
These two big headwinds could keep AFFO per share from growing as rapidly as would be expected given the strong same-store growth from CPI-linked rent bumps and the strong ongoing acquisition volume. Still, the relatively high interest rates on the maturing debt over the next two years relative to the rest of its outstanding debt and the fact that cap rates are rising and WPC should have no issues with immediately redeploying the proceeds from the U-Haul repurchase mean that the hit to AFFO per share should not be more than a few percentage points and easily overwhelmed by the strong growth tailwinds in the portfolio.
Investor Takeaway
WPC has crushed the market over the long-term despite the stock price floundering in recent years:
Today, it is well-positioned to continue delivering market-crushing total returns alongside a very low risk profile. Furthermore, its high yield and accelerating organic growth make it a very attractive investment option for retirees and passive income investors in general. Thanks to the recent sharp pullback in the share price, we are upgrading shares from Buy to Strong Buy.
As a result, we hold a large position in our Retirement Portfolio and may buy more shares in the near future if the unit price remains down from recent highs.
For further details see:
W. P. Carey: Buy The Dip Hand-Over-Fist