When looking for dividend stocks, lots of investors find it pays to check out real estate investment trusts (REITs). The structure of these companies requires them to distribute 90% of their net income annually via dividends in order to avoid paying corporate income tax. As a result, they generally have markedly higher yields than your average stock.
Kilroy Realty (KRC -0.06%) is an office-focused REIT stock that offers a safe dividend and some real potential for higher growth down the road.
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The work-from-home trend will not eliminate the office
Kilroy Realty develops office buildings and rents out space in them, primarily in the West Coast markets of Los Angeles, Seattle, San Diego, and San Francisco. Its tenant base is heavily tech-centric, with Dropbox, GM's Cruise division, Microsoft, Adobe, and Salesforce among its biggest customers. It also leases to a lot of life sciences companies.
Ever since the pandemic proved that employees from corporate America can indeed work from anywhere, investors have questioned whether a long-term shift toward remote work is underway, leaving the country with a glut of office space. If businesses need less office space overall, that could push occupancy levels down and make it harder for office REITs to raise rents when leases expire.
While employees generally like the work-from-home model, various news reports suggest that bosses are less enthusiastic. While the delta-variant-powered fourth COVID-19 wave has led companies like Apple and Wells Fargo to push back their time frames for bringing workers back to the office, other companies are moving ahead with their plans to repopulate the office.
So far, the pandemic has not ushered in any sort of permanent virtual office model, and it probably won't. Some reports indicate that a segment of workers might get more flexibility to work some days from home, but the office is still going to be there. That suggests the business model for the office REIT remains intact.
A highly conservative payout ratio
REITs generally use a financial measure called funds from operations (FFO) to describe their earnings. They prefer it to the net income metric because depreciation and amortization -- the tendencies of physical assets to wear out and lose value over time -- are such big parts of their costs. These are non-cash expenses, though -- the company doesn't actually write out checks for them. The funds from operations metric excludes depreciation and amortization expenses and therefore offers investors a better indication of a REIT's actual cash flow.
Over the 12-month period ending on June 30, the company earned $3.88 in FFO per share and paid $2 per share in dividends. That means Kilroy shareholders are getting a decent yield of 3%.
Divide a REIT's dividend by its FFO and you get its payout ratio, which offers an indication of how safe the dividend is. If a company's payout ratio is pushing 100%, the company has very little breathing room, and a hiccup in its business could cause a dividend cut. In Kilroy's case, the payout ratio is 52%. That's highly conservative -- REITs often sport payout ratios of 70% or higher.
That low ratio also gives some insight into the company's view of its future opportunities. It suggests that Kilroy is plowing more capital back into the business, which should translate into higher growth down the road.
