Dividends contain a lot of information, but often you have to dig in a little to understand what's being shared. That's an important backdrop to remember when you look at Spirit Realty (SRC), which has a nearly 6% dividend yield, nearly two full percentage points higher than peer, and net lease bellwether, Realty Income (O -0.17%). Here's a quick look at Spirit and why you may, and may not, want to invest in it right now.
The pros
Spirit, like Realty Income, is a net lease real estate investment trust (REIT). That means it owns single-tenant properties where the tenants are responsible for most of the operating costs of the assets they occupy. Across a large enough portfolio, it is a pretty low-risk and reliable business model. Spirit owns around 2,000 properties, affording it plenty of diversification.
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Within that figure is a bit of sector diversification, as well. Roughly 20% of rents come from industrial assets, with 70% from retail. About 10% is classified as "other," including the roughly 3% of rents from office space. The average lease term, meanwhile, is a bit over 10 years. All of those stats are fairly close to what you'll find at Realty Income, only Realty Income owns over 11,000 properties. So far, so good.
Spirit also has an investment grade rates balance sheet and similar leverage metrics to peers, including bellwether Realty Income. Spirit's adjusted funds from operations (FFO) payout ratio is also in line with peers at around 72%. At first glance, there's a lot to like here, including the elevated dividend yield.
Why so high?
The question that you have to ask before jumping aboard, however, is: What exactly, given the relatively elevated yield, is leading investors to price Spirit at such a wide discount to the industry's leading name? There are a couple of things to consider.
For example, the dividend was cut in 2018 as the company looked to overhaul its business. Notably, the company presents three versions of its portfolio. One is the "retained" portfolio, another is the "acquired" portfolio, and then, finally, there's the "current" portfolio. The retained portfolio is largely retail, has a lease term of 8.2 years, and includes over 1,300 properties. The acquired portfolio is more mixed by asset class, has a 12.6-year remaining lease term, and includes a little over 700 properties.
It looks as if Spirit is clearly improving its business with the acquisitions it is making, by adding more diversification to its portfolio and increasing its average lease term. However, it is hard to come away from this deeper look without thinking that this REIT is a work in progress to some degree. That isn't a bad thing, with the stats above hinting that a lot has been achieved since the company's spin-off of lesser assets in mid-2018. And the fact that Spirit increased its dividend in 2022, the first hike since the cut, is further evidence of the success of the revamp effort.
But that just means that Spirit is finally finding its footing, which is a far cry from a company like Realty Income, which has been operating with the same successful playbook for decades.
All in all, Spirit is hardly a bad net lease REIT, but it doesn't have the same track record of success that some of its better-known, and lower-yielding, peers have. That, in turn, means it is most appropriate for more aggressive types willing to pay close attention to portfolio moves management makes as it looks to prove that its relatively new business model is going to be a winner. So far, adjusted funds from operations (FFO) results have been uneven (the coronavirus pandemic didn't help the company's transition efforts any), but the REIT is currently projecting notable year over year growth in 2022 of between roughly 8% and 10%.
"It depends" is the answer
If you are a conservative investor who prizes dividend consistency over yield, then Spirit probably won't be the right pick for you. The history is too short under the current business plan, noting that there has been only one dividend increase since the 2018 dividend cut. Realty Income or even W.P. Carey would likely be better options.
However, if you are looking to maximize your passive income stream and are willing to put in some extra legwork to achieve that end, Spirit's higher yield might be worth a deep dive. Just make sure you keep a close watch on where management takes the portfolio from here.