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By Bob Ciura, suredividend.com
Investors looking for high levels of income should take a closer look at Real Estate Investment Trusts, also known as REITs. This asset class is naturally appealing for income investors. REITs are required by the IRS to distribute 90% of their income to shareholders. In return, REITs generally are exempt from taxation at the trust level.
The best REITs have held long track records of paying dividends to shareholders, and raising their dividends every year.
Federal Realty Investment Trust (FRT) is the only REIT on the list of Dividend Aristocrats and the Dividend Kings. It has increased its dividend each year, for over 50 years in a row. Federal Realty stock is a good example of a high-quality REIT for long-term dividend growth.
Understanding Real Estate Investment Trusts
The basic business model for REITs is fairly straightforward. REITs own physical properties that are rented out to tenants, which generates a steady stream of cash flow. REITs use this cash flow for many purposes, including investment in new properties as well as paying dividends to shareholders.
There are three types of REITs: equity REITs, mortgage REITs, and hybrid REITs. Equity REITs like Federal Realty are the most common, and they maintain the basic business model mentioned above. Mortgage REITs are different, as they do not own physical property. Instead, they invest in mortgage securities. Hybrid REITs, as the name suggests, are a blend of the first two categories.
Equity REITs come from a variety of industries. Just a few of the major REIT industries include health care properties, data centers, storage facilities, or retail properties. Investors considering purchasing shares of a REIT should also become familiar with the particular industry in which the REIT operates.
REITs also utilize different accounting methods than traditional publicly-traded companies, with unique terms that investors should know. As REITs incur significant non-cash depreciation and amortization expenses, they report cash flow in terms of Funds From Operation, also called FFO. Depreciation and amortization expenses reduce a company’s net income, but FFO excludes these non-cash charges. FFO is determined by taking net income and adding back various non-cash charges that are seen to artificially impair a REIT’s perceived ability to pay its dividend. Just like earnings, FFO can be reported on a per-unit basis, giving FFO-per-share the rough equivalent of earnings-per-share for a REIT.
REITs have favorable qualities that make them an attractive asset class for income investors. REITs generate steady cash flow from tenants. They typically use this cash flow for a variety of corporate purposes, including redevelopment of existing properties, servicing debt, and investing in new properties. Rent increases, as well as additional cash flow from newly acquired properties, helps provide growth that allows for even more acquisitions. In this way, REITs enjoy a “snowball” effect that produces steadily higher cash flow each year.
Another use of their cash flow is to pay dividends to shareholders. Thanks to the consistency of their cash flow and modest growth each year, REITs widely possess the ability to pay high yields to shareholders. And, they can raise their dividends on occasion. For example, Federal Realty has arguably the best track record of steady dividend growth in the entire REIT industry.
Why Federal Realty Is An Attractive Dividend Growth Stock
Federal Realty is one of the larger real estate investment trusts (REITs) in the United States. Federal Realty trades with a market capitalization of $10 billion. The trust was founded in 1962 and the company generates $950 million in annual revenue.
The key to Federal Realty’s long-term growth is its optimal property selection. concentrates in high-income, densely-populated coastal markets in the US, allowing it to charge more per square foot than its competition. As of the end of the 2019 third quarter, the company owned 104 properties with approximately 3,000 tenants, encompassing roughly 24 million square feet.
These properties share a number of features. They have long-term rent growth potential fueled by high levels of local household income. Properties are also focused on 8 major metropolitan areas which are transit-oriented, and have growing populations and strong demand. As a result, Federal Realty has the ability to charge higher rents than many of its peers. According to a recent presentation, Federal Realty states that its cash rent per square foot reached $28.28, compared with an average of $18.22 for its peer group.
Federal Realty has reported strong quarterly earnings results throughout the year. For example, in the most recent quarter, same-store occupancy stood at 93.5%, down 90 basis points from the year-ago quarter. That being said, re-leasing spreads remain strong at 9.9% and same-store NOI grew by 2.1%. Adjusting for a buy-out charge, the trust’s FFO per share came in at $1.59.
Management has made a strategic decision to forego rent at several properties over the next year – causing them to likely experience flattish FFO performance over the next 12 months – by buying out and denying renewal to certain tenants in order to redevelop the properties and improve their long-term profitability. Given the REIT’s A-rated balance sheet, they can easily absorb the short-term hit to cash flows and long-term oriented investors will likely thank management later.
Federal Realty revised its 2019 guidance for FFO per diluted share to a range of $6.16 to $6.22 ($6.32 to $6.38 excluding the charge related to the buyout of the Kmart lease at Assembly). This indicates the company is on track to generate very healthy cash flow, which secures its dividend.
Federal Realty has multiple competitive advantages that will fuel its continued growth. In addition to its high-quality property portfolio and strong cash flow, it has a healthy balance sheet with a credit rating of A- from Standard & Poor’s. In fact, it is one of only six REITs with a credit rating of ‘A’ or higher. These competitive advantages have made Federal Realty an excellent dividend stock over the years.
Consider REITs Like FRT For Higher Dividend Income
Federal Realty has increased its dividend for 52 years in a row. Over the course of those 52 years, the company increased its dividend at a compound annual rate of 7%. Today, the stock currently offers a dividend yield of 3.3%. By contrast, the S&P 500 Index on average has a dividend yield below 2% right now, which means Federal Realty has higher appeal for income investors. And, Federal Realty has a long and proven history of dividend increases, making Federal Realty stock an attractive combination of dividend yield and growth.
I am interested in REITs and I currently own VNQ and RQI which are funds that hold a basket of REITs. This means that I do not have to worry day-to-day about good news/bad news investment advisory reports that cause a lot of stress… I do like FRT and may buy some for my cash investment account. Thanks for your informative article on FRT and REITs in general…Tom