There was a point in my investment life when I would sell any stock that cut its dividend, without question or a deep look at why the dividend was trimmed. I wound up selling some great companies at exactly the worst time. Ventas (VTR 1.08%) cut its dividend in 2020, and I've held onto it. Not only has the stock bounced back strongly, but I expect good things in the future because of the underlying fundamentals of the business.
A terrible year
I think most people would agree that 2020 was just a miserable year. It was particularly bad for real estate investment trusts (REITs) that owned senior housing, like Ventas. Move-outs were elevated, move-ins were weak, and occupancy fell sharply throughout the sector. For Ventas, which has a sizable senior housing operating portfolio (SHOP), it was even worse. Essentially it both owns and runs these assets, so their performance flows through to the top and bottom lines.
Ventas' SHOP assets were the main reason it ended up cutting the dividend from $0.7925 per share per quarter to $0.45. The thing is, if you understand the business, that dividend cut makes complete sense. And, more importantly, the cut was really driven by a global pandemic, which is an outlying event that wouldn't be expected to recur at regular intervals. In other words, Ventas had to make a tough call at a tough time. As an investor, I chose to sit tight and keep holding.
That turned out to be a good move. At the worst of the 2020 bear market, Ventas was off by around 60%. When it cut the dividend, it was still lower by roughly 40% or so. And today the stock is a couple of percentage points above where it started out in 2020. In other words, around two years on, the shares have fully recovered. Not selling looks like it was a good call.
It's the fundamentals
The reason Ventas has muddled through in relative stride comes back to the basics of its business. For starters, management has long highlighted diversification. Senior housing is important, making up roughly 47% of net operating income. That's a big chunk of the business for sure. But the rest is spread over medical offices (22% of net operating income), medical research properties (10%), health systems (8%), and other assets.
Even in the senior housing portfolio there's some diversification, with 31% of net operating income in the SHOP portfolio and 16% in net lease assets, where the tenant is responsible for most of the operating costs of the properties and has to pay rent even if it's struggling. Ventas is one of the most diversified healthcare REITs you can own. Notably, in 2020, medical office and medical research both performed relatively well, helping to offset the hit from the senior housing segment of Ventas' portfolio.
Furthermore, the demand for senior housing is likely to increase materially in the years ahead. That's because the baby boomer generation is cresting into retirement. And as it continues to age, medical needs across the group will increase, pushing up demand for the care that is provided in the types of properties Ventas owns. As that happens, the current weakness in the SHOP portfolio will shift to a net positive, because improved performance at these assets will flow through to the REIT's top and bottom lines. Basically, Ventas is leveraged to an industry upturn that is, demographically speaking, almost guaranteed to take place.
Ventas is also an investment grade rated REIT. So, despite the need for a dividend cut, it has the balance sheet strength to muddle through this rough patch. In fact, it actually bought a competitor to increase the size of its SHOP business. So it acted opportunistically to ensure it exited the downturn in better shape. While the pandemic backdrop here is unusual, actively managing the portfolio is typical for Ventas. It's the type of thing long-term investors should appreciate.
Too many positives
When it comes to investing, I am no longer trying to hit home runs. I'm happy with consistent singles with a few doubles or triples along the way. Ventas' dividend cut would have made me run for the hills when I was younger and, in the process, I would have locked in a big loss. Today I'm more concerned with owning good businesses that will thrive over the long term. Yes, the pandemic has been hard on Ventas, but its diversification and financial strength suggest it will get through this period in relatively good shape. And its active portfolio management tells me that it will come out in better shape than when it entered.
All that's needed now is an upturn in the senior housing space. When that eventually transpires, as the aging demographic trends suggest it will, the dividend will probably start growing again. A little patience was really all that was needed here because of Ventas' strong underlying business. And that's exactly why I have no plans to sell this industry-leading healthcare REIT anytime soon.