It's been a great year for CorEnergy Infrastructure Trust's (NYSE:CORR) investors. Shares of this unique real estate investment trust (REIT) are up a huge 43%, easily besting the 25% advance of the broader REIT sector, as measured by Vanguard Real Estate ETF. And despite the huge run, CorEnergy still yields an impressive 6.3%, nearly twice what Vanguard Real Estate ETF offers. But don't jump on this fast-rising, high-yield stock until you read this.
Not just a regular REIT
CorEnergy is something of an experiment. Most REITs own physical property, like apartments and office buildings, in which lessees live, work, or store things. Some REITs own mortgages. Some specialize in specific asset classes, while others take a generalist approach. There's a lot of variety, but these are, broadly speaking, the normal things you'll find in REIT-land.
CorEnergy owns oil and gas infrastructure assets, and it's really a one-of-a-kind offering.
In fact, in some ways, it looks more like a midstream oil and gas stock than a real estate company. But it is structured as a net-lease REIT. It buys an asset, largely pipelines, and then rents it back to the seller under a long-term lease that requires the tenant to pay for most of the operating expenses.
The pipelines it owns are vital assets that its lessees can't live without and can't easily replace (if they are replaceable at all). Simply put, if CorEnergy's customers want to get their oil and natural gas to market, they need to move it through the REIT's pipes -- these aren't optional facilities. And it doesn't really matter who ends up owning or operating the drill bit; moving energy from the sites served by CorEnergy's pipelines requires using CorEnergy's pipelines.
So far, CorEnergy sounds like a good way to lock in a fat 6.3% yield. But it gets better: The company has taken advantage of the yield-starved market to issue convertible debt. This was a big deal for the company, because it had some convertible debt maturing in 2020 that it needed to deal with. It basically extended the maturity of the debt out to 2025 and lowered its interest costs from 7% to 5.875%. That's a big win for the company, and it led to a big jump in the stock price. But perhaps more important, it shows that not only are equity investors keen on the company's shares, but fixed-income investors see positive days ahead as well. Meanwhile, debt makes up just 20% or so of the capital structure at this point, a modest amount for any company.
In addition, while the dividend has remained at $0.75 per share per quarter since 2015, that only represented about 70% of the REIT's adjusted funds from operations (AFFO), which is basically like earnings for an industrial company. That's a reasonable figure for an REIT with vital assets backed by long-term leases. Dividend investors should be very interested in this alternative to a midstream master limited partnership at this point.
A small problem
CorEnergy has had a lot to prove since it was created in late 2005. The biggest issue was whether or not it could handle the often dramatic ups and downs of the energy sector. That was put to the test in a big way when oil prices plummeted in mid-2014, leading to the bankruptcy of not one, but two of the company's lessees (more on this in a second). But, as noted above, CorEnergy customers need its assets if they want to sell the oil and gas they produce, so its rents continued to be paid. And investors continued to get their dividends.
Don't hit the buy button just yet, though. CorEnergy is a tiny player in the midstream space. Its market cap is a puny $640 million, which includes the near-50% price gain this year. More important, it only owns four assets, and only three of them are large enough to care about. In other words, when times got tough in the oil patch, half of its assets were being leased to bankrupt companies.
If you care at all about the benefits of diversification, then CorEnergy should fall off of your wish list right now. But there's also a knock-on effect here. Because CorEnergy is so tiny, its ability to grow is going to be limited. It can't buy large midstream assets because the cost would be prohibitive. It can't buy too many assets at one time because of the cost and the inherent increase in the complexity of the business. While the REIT believes its $3-per-share annual dividend is sustainable, there's a big question mark about whether or not it can grow.
Not a good fit for most investors
With the basic idea of CorEnergy's business approach largely proven, the big question now is growth. Because it's a small company, a single deal can make a big difference to the top and bottom line. However, being so small, finding deals and getting them done is that much harder. Yes, there's a big yield here, but with a tiny portfolio and a dividend that's been stagnant for four years, most investors should keep this on the watch list. If management can prove there's growth potential, it will be worth a second look.