When it comes to net lease real estate investment trusts (REITs), Realty Income (O 0.24%) is the bellwether name to watch. That, however, doesn't mean that there aren't other names worth looking at in the space. One alternative to consider is Store Capital (STOR), which has only been public since 2014 but has been growing rapidly and rewarding investors well along the way. Here's a comparison of these two dividend stocks and five factors to consider to help you figure out if one or the other is the better buy.
1. The net lease thing
The big similarity between Realty Income and Store Capital is their focus on properties where the tenant is responsible for most of the operating costs. Such "net lease" properties tend to be low-risk investments, because the landlord can -- put simply -- just sit back and collect rent. They make the difference between their cost of capital and the rents they charge in profit.
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This is important because net lease REITs often end up being a source of capital for lessees. Effectively, a company sells a property to a REIT like Store Realty or Realty Income and then signs a long-term lease. That allows it to continue to benefit from the property, but it also provides it with cash that it can use for other purposes, like capital spending. It's a win-win scenario in most cases and is the underpinning of the entire net lease niche.
2. Sizing things up
With that background, it's important to note the difference in scale between Realty Income and Store Capital. Realty's $24.4 billion market cap is nearly three times as large as Store's $8.6 billion. Meanwhile, Realty owns roughly 6,000 properties, versus nearly 2,400 for Store. The simple math is that Realty Income's size means that it needs to ink a lot of deals to see any impact on the top and bottom lines. And that, in turn, has recently meant that acquisitions of portfolios have had a bigger impact than one-off property deals.
For example, Realty just bought 454 properties from CIM Group for $1.4 billion. This isn't bad news in any way, but it does change the equation a little bit. In a big acquisition, Realty is taking both desirable properties and less desirable ones and has to sort them out later. And it is stuck with whatever lease agreements were created for the properties, since it didn't originate the lease. In other words, meaningful growth for a giant like Realty Income can complicate the benefits of the net lease structure.
Store, which is still relatively small, remains focused on originating its own leases. In fact, it generally makes sure to look at the actual financial results of each property it buys to ensure it's a good fit for the portfolio. All in, Store has a lot of control over the terms of its leases, which it can tilt in its favor based on a deep knowledge of the assets it is acquiring. That's a big benefit, and one Realty Income's scale prevents it from taking advantage of.
3. Diversification
Realty Income is more diversified than Store, but not so much so that it's a deal-breaker. Both are focused on retail and service properties, which make up around 83% of each REIT's rent roll. It's the other 17% or so where things differ. The rest of Store's rents come from manufacturing assets, an industrial property type. The rest of Realty Income's portfolio is spread across industrial (about 12% of rents), office (about 4%), and agricultural (vineyards). In addition, Realty Income just recently bought some grocery stores from a major retailer in the United Kingdom. Although a small percentage of the portfolio, it opens up a new region for investment.
All in all, these are both primarily retail-oriented portfolios. However, Realty Income has its fingers in more pies. And that makes complete sense since it needs more deals and/or larger deals to show meaningful growth. Neither one stands out here, but it is important to note the differences and what they could mean for the future.
4. Some key stats
Looking at some of the core REIT metrics, both Store and Realty Income are healthy. For example, both have high levels of occupancy, at 99.7% and 98.3%, respectively. Take these numbers with a small grain of salt, however, since they are coming at the end of a long expansion. When times are tough, occupancy will fall. Store hasn't lived through a recession as a public company, so there's no way to tell what might happen. Realty Income, meanwhile, has survived multiple downturns, and its occupancy has never dropped below 96%. There's no reason to expect Store's occupancy to implode in a downturn, just go in knowing that it has yet to be stress tested.
STOR Dividend Per Share (Quarterly) data by YCharts
One of the key reasons to own a REIT is income, since the corporate structure is designed specifically to pay dividends -- they avoid paying corporate-level taxes if they pay out at least 90% of earnings to shareholders. Store's yield is 3.7% or so, and Realty Income's is around 3.5%. That's not a big difference, but it's notable that both are historically low numbers (more on this in a second).
Their payout ratios, however, are a bit different. Store's adjusted funds from operations (FFO) payout ratio is around 70%, while Realty Income's is in the low-80s. Both are strong numbers, but Store's ratio is definitely better. That could provide the dividend with more downside protection when the economy turns south, or more room to grow the dividend over time.
As for dividend growth, Store is still a very young company compared to Realty Income. It has increased its dividend regularly since its IPO, but with just five years or so of history (notably excluding an economic downturn), it's hard to give it any kudos for this. Realty Income, on the other hand, has 26 years of annual dividend increases behind it. Both obviously care about returning value to investors via dividends, but Realty's commitment has been tested.
5. Valuation
I've already noted the historically low yields offered by both Store and Realty Income. This suggests that the stocks are trading at premium prices, which is confirmed by the price-to-AFFO numbers for the two companies (roughly akin to a P/E ratio for an industrial name). Based on projected 2019 AFFO, Realty Income's price to AFFO ratio is about 23 times. That's the type of number you would expect for a growth company, but Realty Income is an income stock that has a history of increasing its dividend at a low- to mid-single-digit pace. In other words, it is expensive today. Store's price-to-projected-AFFO is around 19 times. That's lower, but still pretty high, even considering that dividend growth has been in the mid- to high-single digits over the last few years. All in all, neither REIT looks like a bargain today.
Who wins?
If you are a value-oriented investor looking for a good deal, you probably won't like either of these REITs. They are priced for perfection, and it is likely that a recession is coming sooner rather than later, which will put stress on their retail-focused portfolios. Dividend investors, meanwhile, should also be a little reticent based on the relatively low yields here. Yes, you will get more income than if you bought an S&P 500 Index fund, but when you add in the valuation issue you have to wonder if that income is worth the price.
That said, if you had to pick between the two, Store Capital looks like it has a slight edge. The smaller portfolio should make growth easier to come by, it has a modestly higher yield (with a lower payout ratio), and a slightly better valuation. But if you do decide to step in here, go in with your eyes open. You are paying, at best, full price, but more likely a premium for the stock.
