B4LLS
W. P. Carey (NYSE:WPC), a leading net lease real estate investment trust, has been making strategic moves that position it as a compelling investment opportunity. Over the past 6-12 months, the company has undergone significant transformations, including the decision to spin off its office portfolio. This strategic exit from office assets, completed in November 2023, has allowed W. P. Carey to focus on its core industrial, warehouse, and retail properties.
News about that decision sent the stock to a 52-week low of just about $50 and the stock struggled to meaningfully and sustainably recover ever since. That decision and the longer than expected high interest rate environment are the leading factors for W. P. Carey’s disappointing stock price development.
When I refer to the stock price as ‘disappointing,’ I’m simply echoing the general sentiment people have about declining prices. However, for me, the stock price is just optics; the real focus should be on value. If the intrinsic value of the company remains stable or even grows while the stock price falls, that’s an ideal scenario. I actually welcome these periods where price declines, as they provide a better investment opportunity.
Fueled by large-scale office divestments, further non-office dispositions, a diversified portfolio, a reduced cost structure, robust debt servicing capabilities, ongoing investments, and a strong pipeline of industrial assets, I see enormous value in W. P. Carey. Moreover, with an attractive dividend yield of 6.3%, the company presents a compelling opportunity for income-focused investors. Consequently, the longer the stock remains at or below $60, the more advantageous it is for investors like me.
Moreover, while I don’t personally foresee it, the market’s anticipation of a potential interest rate pivot by the Fed could positively impact how the stock is valued. Should interest rates decrease, it might reduce the current window of opportunity to acquire shares at today’s attractive prices. Let’s dive deeper into the details.
What’s going on at W. P. Carey?
W. P. Carey posted somewhat lackluster Q1/2024 results, with both FFO and revenue metrics missing estimates amid the prevailing high interest rate environment. FFO came in at $1.14 with revenue of $389.8M, both unsurprisingly but significantly trailing year-ago results of $1.31 and $427.8M due to the aforementioned office divestments. While these results missed analyst estimates, which I don’t prioritize, it’s crucial to note that management reaffirmed its 2024 guidance for adjusted FFO per share between $4.65 and $4.75.
Based on that guidance the stock is currently valued at around 13 times FFO earnings which is oddly the similar valuation when I last covered W. P. Carey in June 2023 before the news of the office spin-off decision emerged. One would have expected a higher valuation multiple post-spin-off, given the enhanced strength and resilience of the new portfolio. However, poor communication and the prevailing high-interest rate environment have dampened any hopes for multiple expansion-for now, at least.
Compared to its peers, W. P. Carey is the worst performer over a 1-year horizon, which makes the significantly distressed stock price even more valuable to me. This situation clearly indicates that the market is presenting abundant and enticing buying opportunities for those who possess the patience to weather the storm and capitalize on these favorable circumstances.
W. P. Carey’s portfolio occupancy remained closed to its highest level since 2017 at 99.1% and is up a full percentage point vs. the previous quarter when it temporarily dipped following early moves connected to the office spin-off. This is a testament to W. P. Carey’s strong tenants and management’s smart portfolio allocation.
Revisiting the Office Spin-Off Decision
Given that W. P. Carey’s stock price continues to underperform its peers, which also operate amid a high-interest rate environment, the deciding factor for that underperformance seems to be the spin-off decisions. In this section, I want to revisit that decision by looking into the expectations of management regarding the spin-off and how it actually turned out so far based on the latest data by the end of Q1/2024.
In terms of expectations, we can derive the following:
Portfolio Restructuring: The primary expectation from the spin-off was a strategic restructuring of W. P. Carey’s portfolio. The company aimed to exit around 60 net leased office properties, which were seen as less aligned with its long-term growth strategy and therefore negatively impacted shareholder value. By spinning off these assets into a separate REIT, W. P. Carey planned to focus more on its core industrial, warehouse, and retail properties. This move was expected to improve the overall quality of its portfolio and increase its weighting towards these core assets.
By the end of June 2023 W.P Carey’s portfolio based on property type contained a 53% Industrial/Warehouse share, with Office accounting for 16% of annualized base rent. Post the spin-off with the next reporting by the end of September 2023, W. P. Carey predicted Office exposure to drop to 6% with Industrial/Warehouse share rising to 58%. The remaining office assets were expected to be sold as opposed to spun-off by the end of 2023, which would then bring the Industrial/Warehouse share to its new target level of 62%.
W. P. Carey Portfolio Mix (Investor Relations)
Improved Cost of Capital and Growth Profile: By focusing on its core assets, W. P. Carey aimed to achieve a lower cost of capital, which could potentially lead to higher investment returns, which is especially crucial amid the high interest environment. The company also expected the spin-off to enhance its growth profile by allowing it to pursue more accretive acquisition opportunities in its target sectors.
Dividend Cut: The spin-off was expected to result in a material implicit dividend cut, as the company’s reduced FFO levels could no longer support the dividend paid before the spin-off. However, W. P. Carey believed that the market had already priced in this dividend cut, and therefore, it did not expect a significant impact on its stock price.
Stock Price Impact: While the company expected the stock price to reflect the anticipated dividend cut, it also believed that the strategic benefits of the spin-off would support its stock price over the long term. The company expected that the improved portfolio quality, lower cost of capital, and enhanced growth profile would be positively received by the market and would contribute to stock price appreciation over time.
I think a good case could have been made for that strategic decision but as it hit investors pretty much out of the blue with no meaningful prior communication or necessity about such a move, reality hit different and actual outcomes by the end of Q1/2024 also look different.
Portfolio Mix: This metric developed better than expected with the industrial/warehouse share reaching 63% following the conclusion of the spin-off and office sale program as opposed to the predicted 62% share. W. P. Carey’s total properties dropped from 1,472 down to 1,282 as annualized base rent decreased from $1.46B to $1.28B.
Cost of Capital: W. P. Carey’s rating remained at Baa1 (stable) from Moody’s and BBB+ from S&P. The company kept its strong access to capital markets but does not publish any cost of capital metrics. Its debt maturity schedule saw some meaningful developments, though. Following the spin-off, near-term debt due in 2025 was reduced from almost $2B down to less than $800M and the 2025 share dropped from an alarmingly high 22.5% to a much more healthy 8.7%. Most of that debt was pushed to 2026, 2028 and 2029 by which time we should expect lower interest rates and therefore facilitate the management of W. P. Carey’s debt obligations. So while 2025 was concerning before the spin-off, 2026 now looks concerning after the spin-off but to a lesser degree.
W. P. Carey Debt Maturity Schedule (Investor Relations)
Dividend cut: The dividend was cut by 19% from $1.07 per share down to $0.86 per share and is currently sitting at $0.865 per share. While that cut was to be expected given the size of the office portfolio, the impact on the stock was not priced in when W. P. Carey informed about its decision to spin off the office portfolio.
Stock Price Impact: The announcement of W. P. Carey’s decision to spin off its office portfolio was made on September 21, 2023. The spin-off was completed on November 1, 2023. Over key dates, the W. P. Carey’s stock price developed as follows:
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One Day after the announcement (September 21, 2023): The W. P. Carey stock price closed at $57.63, which represents a decrease of 7.98% from the closing price of $62.63 on September 20, 2023.
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One Week after the announcement (September 27, 2023): The W. P. Carey stock price closed at $53.60. This represents a decrease of 14.43% from the closing price on September 20, 2023.
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One Month after the announcement (October 21, 2023): The W. P. Carey stock price closed at $51.73. This represents a decrease of 17.41% from the closing price on September 20, 2023.
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Current stock price (as of today): The stock price stands at $59.35. This represents a decrease of 5.24% from the closing price on September 20, 2023.
This suggests that, contrary to management’s expectations that the stock would find support, the market initially reacted harshly, causing the stock to plummet by as much as almost 20% at its lowest point. Since then, the stock has recovered most of its losses, though it still remains below its pre-announcement price. Additionally, there are no clear signs of imminent stock price appreciation following the spin-off, relative to where it was before.
What’s in it for Dividend Investors with W. P. Carey?
W. P. Carey had a long-standing reputation for strong dividend performance, boasting over 21 years of annual dividend growth. However, this impressive streak was interrupted in December 2023 when the company made the strategic decision to divest its office assets, resulting in a 19.7% dividend cut. This cut, while necessary to realign the company’s financials post the spin-off, ended its trajectory toward joining the illustrious dividend aristocrats circle.
Despite this setback, the dividend cut should not deter current investors. Although the streak of consecutive increases has ended, W. P. Carey remains a committed and reliable dividend payer. The likelihood of another significant cut is very low, barring an unforeseen catastrophe in its other portfolio sectors. As of December last year, the quarterly dividend was reduced from $1.07 to $0.86 per share, with a subsequent modest increase to $0.865 per share.
Future Dividend Growth Prospects
In terms of future dividend growth, the prospects look much better, though. While 2024 is touted as a transitional year, unlike Jerome Powell’s famous comments back in April 2021 about inflation being “transitory”, this transition period for W. P. Carey is indeed likely to be temporary as the company executes its office exit strategy and completes the sale of self-storage facilities to U-Haul. These moves will set a new baseline for future AFFO growth.
We believe we’re very well positioned to generate FFO growth over both the near term and long-term, supported by an improving investment environment, a strong balance sheet and an exceptional liquidity position as well as the embedded rent growth within our portfolio of high-quality, primarily warehouse and industrial net lease assets.
In Q1 2024, W. P. Carey reported FFO of $1.14, translating to a dividend payout ratio of approximately 76%. This reduced payout ratio is designed to enable the company to deliver improved shareholder returns over time.
Going forward, the intention is to grow our dividend in line with our AFFO, which we anticipate will be our dividend growth compared to recent years
W. P. Carey’s management has indicated that the goal is to align future dividend growth with AFFO growth, anticipating higher dividend increases compared to recent years. Although investors have experienced the pain of a substantial dividend cut, this “great reset” is expected to prove beneficial in the long run.
Investor Takeaway
W. P. Carey’s strategic decision to divest its office assets marks a significant shift aimed at enhancing its portfolio quality and long-term resilience. While this move resulted in a 19.7% dividend cut in December 2023, ending a two-decades long streak of annual dividend growth, the company remains a highly committed dividend payer. The dividend and portfolio reset enables W. P. Carey to focus on its core industrial, warehouse, and retail properties, which are well-positioned to benefit from the rising demand for e-commerce.
Despite a challenging high-interest rate environment and initial market skepticism, W. P. Carey’s stock continues to demonstrate its robust financial health. The company posted solid Q1 2024 results, with an FFO of $1.14 and a dividend payout ratio of around 76% which can be seen as healthy. The strategic Office divestments have not only improved the portfolio mix, with industrial/warehouse assets now comprising 63%, but have also freed up significant liquidity and cash flow power going forward.
Looking ahead, W. P. Carey plans to leverage up to $1.5 billion of cash in 2024, generated from remaining office asset sales, the U-Haul sale and free cash flow, to invest in high-quality properties. This transition year is expected to set a strong baseline for future AFFO growth, with management committed to aligning dividend increases with AFFO expansion.
For investors, the current period of depressed stock prices represents a compelling buying opportunity. The company’s strong balance sheet, strategic portfolio restructuring, 6.3% dividend yield and focus on high-growth assets underscore its potential for long-term value and dividend growth. As W. P. Carey navigates this transitional phase, it stands to emerge as a more resilient and attractive investment for income-focused investors.