A few days ago I wrote an article titled, You Must Understand Value, If You Are A Value Investor, in which I attempted to help investors understand the value of Omega Healthcare Investors (OHI). As I explained,
“As any value investor recognizes, understanding value is the most critical part of fundamental research, arguably the most important.”
The debate with Omega, as well as the other skilled nursing REITs, is rooted in the sustainability of the business model. While some pundits believe that skilled nursing rents will continue to decline, the bulls (like me) argue that the supply and demand fundamentals will drive returns for years in the future.
In the upcoming edition of the Forbes Real Estate Investor, I will examine the strengths and weaknesses of the skilled nursing sector in hopes of identifying the true catalysts that support my OHI and Sabra Healthcare (SBRA) Buy recommendation.
I certainly can’t debate the volatility of the skilled nursing REIT sector, but for patient investors, there’s value, as illustrated by the year-to-date results of these REITs:
One REIT that appears directly in the middle of the pack (shaded in dark blue) is National Health Investors (NHI). I recently included the company in a Forbes article titled, “These REIT Dividend Are Like Everlasting Gobstoppers”. In that article I explained,
“…there are nine REITs that have demonstrated exceptional track records for paying and increasing dividends. Keep in mind these nine REITs stuck it out through one of the worst economic downturns – the Great Recession (a financial collapse paralleled only by the Great Depression), which saw the end of Lehman Bros and Bear Sterns, and a near-collapse of Citigroup and AIG.”
These nine REITs include Federal Realty (FRT), Universal Health Realty Income Trust (UHT), National Retail Properties (NNN), Tanger Factory Outlet (SKT), Realty Income (O) Urstadt Biddle Properties (UBA), Essex Property Trust (ESS), W.P. Carey (WPC), and National Health Investors.
So why the gobstopper reference? Here’s a quick recap from Gene Wilder’s Wonka:
“Everlasting Gobstoppers! They’re completely new! I am inventing them for children who are given very little pocket money. You can put an Everlasting Gobstopper in your mouth and you can suck it and suck it and suck it and suck it and it will never get any smaller!… There’s one of them being tested this very moment in the Testing Room next door. An Oompa-Loompa is sucking it. He’s been sucking it for very nearly a year now without stopping, and it’s still just as good as ever!”
National Healthcare Investors: Truly Diversified
National Health Investors was founded in 1991, and for most of the last 26 years, the Tennessee-based REIT has maintained a small asset base.The company has partnered with 33 Operating Partners that manage 229 properties across 33 states.
NHI is considered a diversified healthcare REIT, based upon the following sub-sector breakdown: Skilled Nursing (28%), Hospital/MOB (3%), Entrance Fee (19%), Independent Living (16%), Assisted Living (26%), Senior Living Campus (6%), and Other (2%).
One important footnote to the company’s past is its dividend cut in 2000. NHI was forced to cut its dividend around 18 years ago as a result of a technical default. At the time, it had a large loan with a Japanese bank, and when one of the company’s tenants filed for bankruptcy, the bank called the loan. At that point, NHI did not enjoy the same financial flexibility and it had no tenant diversification.
NHI’s core assets were spun out of National Healthcare (NHC) with high coverage ratios as the public operating company wanted/needed to retain meaningful cash flow. However, as illustrated below, NHI has done an excellent job diversifying its partners.
As you can see, NHI has a few of the same operators as Omega Healthcare Investors: Prestige (2%) – and New Senior (SNR) – Holiday (14%).
Another larger operator for NHI is Bickford Senior Living which represents 16% of cash revenue with an EBITDARM coverage ratio of 1.22x for the trailing 12 months ending December 31st. NHI is seeking to expand its relationship with Bickford.
NHI announced the acquisition of five assisted living and memory care communities totaling 320 units for a total commitment of 69.75 million. This includes 500,000 in capitalized transaction costs and a $1.75 million allowance for capital expenditures.
The communities are leased to an affiliate of Bickford at an initial rate of 6.5% with annual fixed escalators and a 15-year maturity. NHI also has a fair market rent reset opportunity in years 3-5. The acquired assets are located in Columbus and Cleveland, Ohio and Erie, Pennsylvania.
Senior Living Communities represents 16% of NHI’s cash revenue, their EBITDARM coverage ratio is 1.3x on a trailing 12-month basis as of Q4-17. Entry fees for the calendar year 2017 were solid and year-to-date 2018 performance has been in line with expectations.
Looking at National Healthcare Corporation, NHI’s partnership with NHC accounts for 14% of cash revenue and has a corporate fixed charge coverage of 3.6x. Holiday represents 14% of cash revenue and has an EBITDARM coverage ratio of 1.16x as of fourth-quarter end.
The Balance Sheet
For Q1-18, NHI’s debt capital metrics were: net debt to annualized EBITDA at 4.3x, weighted average debt maturity at 6.5 years, weighted average cost of debt at 3.6%, and fixed charge coverage ratio of 6.3x.
NHI ended Q1-18 with $262 million outstanding on its revolver, leaving the company with $288 million on available revolver capacity. During Q1-18, NHI did not make use of its aftermarket equity program, but did acquire $27.6 million in NHI’s high value convertible notes.
After adjusting for NHI’s first-quarter dividend, the convertible bonds conversion price now stands at $70.01, down $0.24 from $70.25 at the end of 2017. NHI declared dividends of $0.77 per share, the bonds conversion price will continue to ratchet down, increasing the cost of the convertible debt instrument when it matures in April of 2021.
NHI has now purchased a total of $80 million in par value convertible bonds allowing the company to reduce future exposure to the bonds conversion feature. With leverage currently at the lower end, 4-5x net debt to EBITDA ratio, NHI continues to be well positioned for future accretive investments.
Although NHI has no investment grade rating, I consider the debt “unofficially” rated as BBB. I like the fact that it maintains frugal practices like not forking out over $400,000 annually to a rating agency or supporting its corporate offices in an owned office building outside of Nashville, TN.
The Latest Earnings Results
In Q1-18, NHI’s Normalized FFO per diluted share increased 8% to $1.35 compared to $1.25 for the same period one year ago. Normalized AFFO also increased 8% to $1.22 per diluted share compared to $1.30 one year ago.
NHI’s total revenues for Q1-18 showed growth of 9.6% over the same quarter in 2017. For the first quarter of 2018, general and administrative expenses were $4.2 million, an increase of less than $70,000 when compared to the same period one year ago. NHI’s non-cash share based compensation expense in the first quarter was $1.4 million.
NHI paid its second-quarter dividend of $1 per share to shareholders on June 29th, and the company currently estimates its normalized FFO payout ratio will be in the low 70% range and the normalized AFFO payout ratio will be in the low 80% range, thereby providing the company with excess cash to be used for making new investments. Here’s a snapshot of NHI’s dividend growth record since 2008:
A Health Care REIT That Willy Wonka Would Love
NHI affirmed its previous normalized FFO guidance range of $5.45 to $5.51 and a normalized AFFO range of $4.99 to $5.03 per diluted share. Now take a look at the FFO/share forecaster (powered by FAST Graphs):
Now let’s take a look at NHI’s dividend forecaster (powered by FAST Graphs):
Now, with the growth forecast in your head, let’s examine NHI’s dividend yield compared with the health care REIT peers:
Now let’s compare NHI’s P/FFO multiple with the health care REIT peers:
As you can see (above), NHI shares are trading at 13.9x, just a tad cheaper than the larger diversified REITs, Welltower (WELL), Ventas (VTR), and HCP Inc. (HCP). Keep in mind, NHI is much smaller in size than these three peers, but more importantly, NHI has 28% skilled nursing exposure (VTR has just 1%).
As you see (above), OHI has outperformed NHI and VTR year to date. I would have expected that, given the mispricing of OHI (and SBRA) shares; however, I was not expecting VTR to underperform NHI. I consider VTR a blue chip REIT and my top pick overall, and I prefer to own this REIT given the higher quality balance sheet and portfolio (see my latest VTR article HERE).
However, I am maintaining a BUY on NHI. As noted, this REIT has solid earnings and dividend growth forecasted, as well as a moderate payout ratio. This means that NHI should be a top dividend performer in 2018 and I am sure that even Willy Wonka would love these tasty dividends!
Note: Brad Thomas is a Wall Street writer, and that means he is not always right with his predictions or recommendations. That also applies to his grammar. Please excuse any typos, and be assured that he will do his best to correct any errors, if they are overlooked.
Finally, this article is free, and the sole purpose for writing it is to assist with research, while also providing a forum for second-level thinking. If you have not followed him, please take five seconds and click his name above (top of the page).
Sources: FAST Graphs and NHI Investor Presentation.
Other REITs mentioned: (ARE), (CHCT), (HTA), (DOC), (NYSE:HCP), (CTRE), (LTC), (SNH), (GMRE), (MPW), (MRT), and (SNR).
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Disclosure: I am/we are long ACC, AVB, BHR, BPY, BRX, BXMT, CCI, CHCT, CIO, CLDT, CONE, CORR, CTRE, CUBE, DEA, DLR, DOC, EPR, EQIX, EXR, FRT, GEO, GMRE, GPT, HASI, HT, HTA, INN, IRET, IRM, JCAP, KIM, KREF, KRG, LADR, LAND, LMRK, LTC, MNR, NNN, NXRT, O, OFC, OHI, OUT, PEB, PEI, PK, PSB, PTTTS, QTS, REG, RHP, ROIC, SBRA, SKT, SPG, SRC, STAG, STOR, TCO, TRTX, UBA, UMH, UNIT, VER, VICI, VNO, VNQ, VTR, WPC.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Article source: https://seekingalpha.com/article/4189039-health-care-reit-willy-wonka-love