Washington Prime (NYSE:WPG) has been a classic battleground stock in recent years. Bulls love its sky-high 23% dividend yield and think that the REIT's brash CEO, Lou Conforti, is making the right moves to respond to the retail apocalypse. Meanwhile, bears point to Washington Prime's declining financial metrics and believe that its ownership of numerous mid-tier malls will lead to further pain in the years ahead. Most bears see the high dividend as an albatross, draining capital from the company and increasing the likelihood of a future crisis.

Last week, Washington Prime released its earnings report for the third quarter, and both bulls and bears could find some support for their views. That said, it was clear from the earnings report that this high-yield REIT is far from completing its long-awaited turnaround.

Another weak quarter -- but not quite as bad as expected

In the third quarter, comparable net operating income (NOI) for Washington Prime's core properties fell 5.5% year over year. This decline was driven by its "Tier One" mall portfolio, which recorded an 8.8% NOI decline. Management noted that the entire NOI decrease can be explained by the most prominent retail bankruptcies of the past two years: Sears, Bon-Ton, Toys R Us, Payless ShoeSource, Gymboree, and Charlotte Russe.

Between this decline in comparable NOI and a handful of divestitures, Washington Prime's total revenue fell 10.2% year over year to $161.2 million. Adjusted funds from operations (FFO) -- a key earnings metric for REITs -- plunged to $0.28 per share from $0.37 per share a year earlier. This still beat the average analyst estimate by $0.01.

On a year-to-date basis, adjusted FFO per share has fallen 24%, from $1.13 to $0.86, because of the same headwinds that affected the third quarter.

A corridor in a shopping mall

FFO is declining at Washington Prime, because of a slew of retail bankruptcies. Image source: Getty Images.

Mixed financial metrics and guidance

A variety of other current financial metrics paint a somewhat confusing picture at Washington Prime. On the plus side, sales per square foot for in-line tenants at its Tier One malls increased 4.6% for the trailing-12-month period. In addition, leasing activity increased 13% year over year in the first nine months of 2019, to 3.2 million square feet. That implies plenty of tenant interest in Washington Prime's properties.

On the other hand, leased occupancy for the REIT's Tier One and open-air properties ticked down to 92.9% as of Sept. 30, compared with 94% a year earlier. More troublingly, leased occupancy for the Tier One malls fell to 90.1% from 93.4%. That suggests that some of the sales-per-square-foot increase Washington Prime reported may be the result of weaker tenants that are finally closing up shop. In addition, average leasing spreads declined 4.8% for the past 12 months, indicating that the REIT had to reduce rents to achieve its strong leasing volumes.

Washington Prime's guidance also leaves a lot of room for interpretation. The good news is that management reaffirmed its 2019 guidance for adjusted FFO per share to wind up between $1.16 and $1.24. It is also sticking by its forecast that comparable NOI will increase by at least 2% next year.

The bad news is that Washington Prime now expects comparable NOI to fall 3% to 4% this year. For comparison, its previous forecast called for a 3% decline, and it entered the year expecting a 1% to 3% decrease in that metric. Moreover, the REIT missed its initial forecasts for NOI in 2017 and 2018, so investors need to take management's 2020 projections with a grain of salt.

There are better opportunities

Right now, Washington Prime has nearly two dozen vacant former department store buildings in its mall portfolio. The REIT has made plans to fill the majority of these spaces, although many of the new tenants won't open until at least 2021. When those tenants start paying rent, it will boost FFO growth. That would help Washington Prime maintain its lofty dividend, which isn't fully covered by cash flow today.

However, this rosy outlook implicitly assumes that the surge in bankruptcies that has swept across the retail sector over the past few years is almost over. That's not a safe assumption, particularly given that the risk of a U.S. recession in the next year or two remains significant. Furthermore, Washington Prime still has more than 100 department stores in its portfolio, leaving it with high exposure to a rapidly shrinking segment of the retail market.

If all goes well, Washington Prime could deliver huge gains for investors on top of paying its big dividend. Yet if the parade of retail bankruptcies continues over the next few years, FFO will probably continue to decline, forcing a dividend cut and potentially eroding the stock's value further. As a result, only the most risk-tolerant investors should consider owning shares of this ultra-high-yield REIT stock.