Rising Star Buy: Sabra Health Care REIT

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This article is part of our Rising Star Portfolios Series.

I like companies that put cash back into my portfolio, and that's part of the reason I'm buying Sabra Health Care REIT (Nasdaq: SBRA  ) for my Rising Stars Portfolio. The company is a recent spinoff of Sun Healthcare (Nasdaq: SUNHD  ) and is poised to take advantage of the ailing commercial property market as it ramps up its own operations under former Sun CEO Richard Matros.

The business
As part of the spinoff, Sabra was assigned most of Sun's properties, consisting of 86 health-care buildings, including nursing homes, assisted living facilities, and rehabilitation centers across the U.S. The company provides services at these various facilities, and Sabra collects rents from Sun under triple net leases (i.e., Sun pays for insurance, maintenance, and taxes) that have been signed for initial 10- or 15-year periods. Currently, these former properties comprise all of Sabra's portfolio. But Sabra is looking to expand, using a wad of cash, loans and then equity.

The company expects to further diversify by geography, asset class, and tenant. Sabra plans to acquire nursing homes and other assisted living facilities before looking at deals in medical offices and hospitals among others. Sabra is looking at acquisitions in the range of $10 million to $30 million, according to Matros, who built Sun's portfolio of properties over the last decade.

Why I'm buying
The company has nearly $65 million in cash, and a credit line of $100 million that is expandable up to $200 million. Because of Matros' background in the field, he knows many smaller companies that are looking for financing.

At a current price of $16.50, Sabra should pay out a yield of around 7.8%. But with Sabra's liquidity, that payout should increase as it makes acquisitions. And since Sabra is a small company, it can grow at a faster pace than larger operators such as HCP (NYSE: HCP  ) . Its relatively small size should also make the company more attractive to investors looking for growth, and it currently trades around 10 times funds from operations.

While I don't see a clear prospect of huge capital gains, an investment here gets money coming into the portfolio with Sabra's relatively high and (potentially) growing yield. Therefore, I'm allocating just under 6% of our total capital, or $1,000, to a position in Sabra. I would not be averse to adding to this position, should prices become more favorable.

I see a few risks here: First, if Matros and his team fail to find good deals and instead settle for tepid properties. Notwithstanding Matros' experience acquiring real estate over the last decade, Matros will have to wring out deals from desperate operators in the tricky commercial real estate market. Also, the company does have a chief investment officer who has significant experience in real estate, and has served at Cerberus Real Estate Capital Management and HCP, a huge health-care real estate investor. So I'll be watching this as we move forward.

Another related risk is Sabra's ability to create value from newly obtained properties. I'll be watching that as we move ahead.

The final risk has to do largely with the company's total reliance on Sun, which is highly exposed in its operation to Medicare and Medicaid programs. These programs together comprise some 70% of Sun's revenue, meaning any substantial decline could put Sabra's key source of revenue in some jeopardy. Fortunately, Sabra has long-term contracts on each of these properties.

Sabra offers us the opportunity to obtain a high yield in a frothy real estate market. If the equity market is, as many feel, overvalued, future upside of the broader market could be limited. But Sabra's yield too will help limit downside risk, and provide an ongoing source of income as we wait for the company's plans to develop.

This article is part of our Rising Star Portfolios series, where we give some of our most promising stock analysts cold, hard cash to manage on the Fool's behalf. We'd like you to track our performance and benefit from these real-money, real-time free stock picks. See all of our Rising Star analysts (and their portfolios) here.

Jim Royal, Ph.D., does not own shares in any company mentioned here. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (2) | Recommend This Article (16)

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 29, 2010, at 1:24 PM, DeborahCalvert wrote:

    Superior Court Judge Gregory W Jones of Harbor Court in Newport Beach, California, called Rick Matros a slumlord in 2007 for not repairing the HVAC system in a Sunbridge facility in Newport Beach in 2003 that led to the death of my mother, Evelyn Calvert. This was confirmed by physicians Dr L Scott Stoney and other doctors at Hoag Hospital who witnessed her many visits and health decline over a period of months. It didn't help that she contracted MRSA from their facility and had suffered a debilitating stroke from their broken b/p monitors. Additionally there were Four other patients I knew who also died from Sun's under staffing, of which two sued and three had no family who cared.

    Just last week in Kentucky a jury awarded $40 M in punitive damages for the death of a man in a Sun facility. Yet this former CEO is out looking to buy new businesses? Is he really competent? This is a public corporation who's shareholders need to know the truth about Sun's former CEO's business practices. Profit over people is just not acceptable.

  • Report this Comment On December 06, 2010, at 9:39 AM, ibankingprep wrote:

    While I agree with you that SBRA will be a nimble, fast growing REIT out of the gate, at $17/share it looks expensive for multiple reasons:

    1. Their closest competitor, OHI, is trading at a 2 turn discount on Funds from Operations (FFO) to SBRA..this is unwarranted for several reasons:

    a. SBRA has a much higher cost of capital (they recently raised HY debt at over 8%

    b. SBRA is a one tenant REIT, OHI has over 20 operators

    c. SBRA has much more Medicaid reimbursement risk. State Medicaid budgets are at risk going into spring

    2. They have about ~$120mn of dry powder to do small, one-off, M&A deals. Rick is targeting about $10mn worth of deals per quarter. Assuming they do ALL of the $120mn in 2011 at a 10% yield that’s $12mn of additional rent – this would be on top of $70mn of PF revenues so would definitely move the needle here....BUT they would add about $8mn to FFO and put 2010 Pro Forma FFO at 10.6x vs. OHI at 11.0x...STILL NOT LOOKING CHEAP

    Botton Line: This is a stock that should trade at a1 to 2 times discount to OHI...not premium

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