When I think about compounding power, I think about the concept of getting “interest on interest.” It’s that magic called compounding that creates a disciplined approach to investing in which you literally accrue income much like a free ATM machine.
That power (of compounding) is simply the process of generating earnings on an asset’s reinvested earnings. Unlocking the magic requires two things: the reinvestment of dividends and time. The more time you give your investments, the more you can accelerate the income potential of your original investment.
By utilizing compounding, your portfolio amplifies the growth of your working money and maximizes the earning potential of your investments – but remember, because time and reinvesting make compounding work, you must keep your hands off the principal and dividends. That’s called discipline.
Compounding is often referred to as the “snowball effect;” that is, if you reinvest your dividends (and compound income) you will ultimately make more money with a monthly dividend payer than an annual dividend payer.
In addition to more frequent compounding, monthly paying companies also offer less market risk. With an annual distribution, you have just one day a year to buy additional shares via a dividend reinvestment program.
That’s not much time to decide if you want to sell out or oftentimes you’re forced to buy more shares when the share price is high (with little margin of safety). With a monthly dividend stock, you reinvest in shares 12 times a year, spreading out the market risk of your reinvested dividends.
Also by investing in REITs that pay monthly, you’re able to better match-fund your living expenses and create a more disciplined approach to saving and investing.
Many retirees (and even millennial investors) like receiving monthly rewards (in the form of dividends) as they provide flexibility of paying household bills, enjoying rounds of golf, or eating out at a favorite restaurant.
Also, it’s possible that a monthly dividend payment can bridge the gap when an emergency arises (like the new heating and air that is being installed in my house as I type). If I were forced to sell out of a good stock before its payoff, it could cost me precious earnings power.
In my monthly newsletter (Forbes Real Estate Investor) I created a Monthly Dividend Portfolio, as a means to help investors build a basket of REITs. There aren’t that many U.S. REITs that pay monthly (most all REITs in Canada pay monthly) so I am extremely disciplined when I recommend one, and today I am upgrading one to Strong Buy.
LTC Is A Diamond in the Rough
One advantage I have over other writers and investors on Seeking Alpha is experience. I have been writing for around 8 years and I have over 25 years of experience in commercial real estate. I have been covering LTC Properties (LTC) since December 2012 (my first article here) and that has given me a good framework for this unique healthcare REIT.
I did not recommend LTC after publishing my first article; it took a few quarters for me to warm up the monthly payer. Here’s how LTC has performed since my first article:
As you can see, shares hit $52.50 in mid (June) 2016…
…and have since fallen sharply to a close of $38.16.
LTC’s dividend yield is now 6%, a level that the company has not seen since the last recession (2008).
Although LTC’s dividend yield has breached 6%, the company has maintained very consistent record of increasing dividends. As the chart below illustrates, LTC has raised its dividend every year except 2009 (when the company just froze the payout and did not cut the dividend).
LTC has been around for over 25 years; the company was incorporated on May 12, 1992, in the state of Maryland, and commenced operations on August 25, 1992. It invests primarily in senior housing and long-term healthcare property types, including skilled nursing properties (50.8%), assisted living properties (46.9%), independent living properties and combinations thereof.
LTC owns a portfolio of 201 properties, 3 development projects and 4 land parcels (in 29 states). It is based in Westlake Village, California, and, as you can see below, the company has a nationwide footprint:
LTC has a well-balanced geographic footprint. Texas has the highest concentration (17.1%), followed by Michigan (14.1%) and Wisconsin (8.0%). Michigan is the second-largest state for LTC, and that is due to the company’s loan portfolio. In Michigan, most healthcare REIT deals are done as loans due to the state Medicaid reimbursement regulations, and that’s also why you see (below) Prestige Healthcare as the second-largest tenant (for LTC). As you can see below, LTC has over 66% of its portfolio in the Top 100 MSAs:
Here’s a snapshot of its top operators:
On the Q2-17 earnings call, LTC’s CEO (Wendy Simpson) explained,
I now want to provide an update on our Anthem properties which resulted in our issuance of a monitory default notice on our master lease with them covering 11 memory care communities, nine of which are operational and two of which are currently under development.
When we began helping Anthem grow their business approximately six year ago, they had a very aggressive growth plan and unlike many of great startups, they have suffered growing pains.”
Anthem is LTC’s 6th largest tenant/operator (6.2% of portfolio) that generates around $10 million annually. Anthem is privately owned with 10 locations (9 owned by LTC).
Simpson said that LTC had “recently signed a forbearance agreement with Anthem under which we it agreed not to pursue enforcement related to their defaults through the end of this year, with the stipulation that Anthem, among other conditions, pay minimum rent of $4,000 per month through December 31, 2017. This was slightly higher than the $1 million per quarter estimated earlier.”
Given the progress Anthem has made and after reviewing a variety of options for the portfolio, LTC said that it decided to continue with Anthem as the operating partner for now.
As I explained in a recent article,
“…there’s a silver lining here, as Genesis (GEN) appears to be performing well, thanks in large part to the capital structure. The restructuring plan is expected to reduce Genesis cash fixed charges between $80 million and $100 million annually. This level of reduction in fixed charges is subject to the successful sale of the Welltower (HCN) and Sabra (SBRA) facilities to new landlords, the successful re-leasing of those facilities to Genesis at reduced rents, the successful refinancing and/or repayment of certain debt obligations and the receipt of additional concessions to be made by other credit parties.”
In addition to GEN, I am also encouraged with the recent earnings announcements of Ventas, Inc. (VTR) and Omega Healthcare (OHI). It appears that there are green shoots forming that could suggest a recovery forming in both the senior housing and skilled nursing sectors.
Wendy Simpson adds:
As we continue to monitor and assess their operational improvements, corporate overhead reduction and ability to bring the two new development projects online in a timely and successful manner. We still need a few more months of operating history for Anthem before we can provide a cogent forecast for 2018 rent from them. But as I mentioned, in the few months since their default Anthem has made good progress.”
LTC’s Master Leased Portfolio
The vast majority of LTC’s portfolio (94%) is tied together in various master leases, such that an operator can’t cherry-pick the properties it chooses to keep without the risk of losing all of the assets embedded in the lease structure.
Senior housing operator Senior Lifestyle, and skilled nursing operator Prestige Healthcare, account for 12% and 16.1% of annual income, respectively. Genesis Healthcare accounts for 5.0%. The majority of other operators are regional companies that provide granular diversification, protection against one tenant failure.
LTC’s initial lease terms are between 10 and 15 years, and the weighted average remaining lease term for the portfolio is 8.9 years. All of the leases are triple net, such that the lessee is required to pay additional charges, including taxes, insurance, assessments, maintenance and repair.
Most of the leases provide for a fixed minimum base rent, annual rent increases and renewal options. There is just one lease maturity in 2017 (GAAP rent of $.4 million), and ALL leases are TRIPLE NET.
This means there is absolutely no operator risk and the total portfolio is 54.9% private pay. The government pay model is riskier (than private pay), but LTC’s net lease model provides added protection, since the leases are cross-defaulted.
A Highly Disciplined Balance Sheet
LTC has well-laddered long-term debt maturities that are matched to projected free cash flow, there are no amounts currently outstanding under the line of credit, and the company doesn’t have any significant debt maturities over the next five years.
Subsequent to Q3-17, the company borrowed $15 million under its line of credit for the acquisition of a newly constructed Assisted Living and Memory Care community for $16.6 million.
In keeping with LTC’s philosophy of maintaining a strong and flexible balance sheet, its long-term debt maturity remains sensibly spaced and matched to projected free cash flow, which helps to moderate future refinancing risk.
There are no major debt maturities over the next five years, and LTC maintains significant liquidity not only to meet obligations, but to fund future growth. Currently, $530 million of availability remains under the line of credit, $52 million under the shelf agreement with Prudential (NYSE:PRU) and $185 million under the ATM program, giving total availability of $767 million.
LTC continues allocating capital strategically and conservatively to provide maximum value for the portfolio partners and shareholders and to help ensure profitable long-term growth.
At the end of Q3-17, its credit metrics continued to compare well to the healthcare REIT industry average, with debt-to-annualized normalized EBITDA of 4.2x, normalized annualized fixed charge coverage ratio of 4.8x and a debt-to-enterprise value of 25.6%.
The Latest Earnings Results
As I explained above, Anthem’s operator performance sparked a sell-off in early August; however, I did not see any other news related to fundamentals.
The company’s commitment to working with strong regional operators (both current and future) to meet their needs by offering creative solutions and financing structures to help them grow remains unwavering.
LTC’s Q3-17 FFO was $0.76 per diluted share, the same as in Q3-16. There were three primary factors that impacted the results.
First, rental revenue was reduced related to Anthem and properties sold during the past 12 months. Additionally, mortgage interest income declined related to loans that were paid off. These are partially offset by increases in revenue from acquisitions, development and capital improvement.
Second, interest and other income increased $1.2 million. $425,000 of this increase resulted from investments in Mezzanine loans, and the remaining $842,000 resulted from a write-off of an earnout liability and related lease incentive that LTC no longer anticipates paying.
The write-off was due to a strategic change in operations at the property whereby the operator converted Memory Care units to Assisted Living units to better meet market demand. After a review of the revised pro forma, LTC determined that it was unlikely that the operating metrics required to trigger the earnout payment will be met within the time frame required by the agreement.
Third, interest expense increase related to the sale of senior unsecured notes in the latter half of 2016 and the beginning of 2017. Investments in Q3-17 included $6.4 million for development and capital improvement projects. The company borrowed $10 million under the line of credit, repaid $15 million of senior unsecured notes and funded $0.19 per share monthly common dividend.
Finishing off with guidance, LTC slightly increased 2017 forecast, assuming no additional investment activity, financing, or equity issuances for the remainder of the year. The company is forecasting FFO between $3.07 and $3.09 per share for 2017 and plans to provide 2018 guidance during the Q4-17 conference call.
Here’s my AFFO/share forecast (powered by F.A.S.T. Graphs):
As you can see, LTC ranks #7 (out of 15) relative to the AFFO/share forecaster. Now let’s take a look at the company’s historical AFFO/share growth:
As you can see, the consensus estimates for LTC’s AFFO/share in 2018 is 5.3%. This is an important metric because LTC generates around 2/3’s of growth internally (rent growth) and 1/3 externally (acquisitions). This means that LTC should be able to grow its dividend without organic growth. Now let’s look at the dividend growth model:
As you can see, historically LTC has grown its dividend by around 5% per year and the estimate for 2018 is just under 4%. Also, LTC has maintained a consistent payout ratio of 80% (based on AFFO):
I consider LTC one of the most predictable monthly dividend payers and shares are now yielding 6.0%:
LTC has consistently grown its dividend and now possible to own shares at a much lower multiple.
Here is how LTC’s P/FFO multiple compares with the peer group:
Here is how LTC has performed year-to-date:
Given the more recent pullback in LTC, I have decided to upgrade the company from a Buy to a Strong Buy. LTC has demonstrated that it can successfully allocate capital wisely and manage its exposure in skilled nursing properties (50.8%) and assisted living properties (46.9%).
In Q2-17 (LTC reports one quarter in arrears) the trailing 12 months EBITDARM and EBITDAR coverage on a same-store basis was 1.93s and 1.41x, respectively, for the Skilled Nursing portfolio and 1.43x and 1.22s, respectively, for the Assisted Living portfolio. The Assisted Living portfolio coverage was relatively stable on a same-store basis to recent quarters, and the Skilled Nursing portfolio coverage declined six basis points, primarily attributable to the operators referenced.
LTC will release fourth-quarter earnings on Thursday, March 1, 2018.
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).
Source: F.A.S.T. Graphs and LTC Investor Presentation.
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Disclosure: I am/we are long ACC, AHP, APTS, ARI, BRX, BXMT, CCI, CHCT, CIO, CLDT, CONE, CORR, CUBE, DDR, DEA, DLR, DOC, EPR, EXR, FPI, FRT, GEO, GMRE, GPT, HASI, HTA, INN, IRET, IRM, JCAP, KIM, LADR, LAND, LMRK, LTC, MNR, NXRT, O, OFC, OHI, OUT, PEB, PEI, PK, PSB, QTS, REG, RHP, ROIC, SBRA, SKT, SPG, STAG, STOR, TCO, UBA, UMH, UNIT, VER, 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.