Although it's not as well-known as some of its real estate investment trust (REIT) peers, W.P. Carey (WPC 0.16%) is something of an icon in the institutional property market. The company's namesake founder was one of the first to popularize the sale/leaseback net lease model. That said, the dividend has been growing very slowly of late, which might turn some income investors off. There are reasons for the slow growth and, just as important, reasons to think the pace will soon pick up.
A little background is necessary
W.P. Carey is a net lease specialist. That means that its tenants are responsible for most of the operating costs of the properties they occupy. Although any one property is high-risk, since there's just a single tenant, across a large portfolio the risk is greatly diminished. The REIT owns over 1,300 assets, so it is fairly large.
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In addition to the net lease focus, W.P. Carey tends to originate most of its own leases via sale/leaseback transactions. Essentially, it buys directly from a company that is looking to raise capital for some other purpose (like growth investment) while still maintaining access to a property. It's a win/win deal, noting that W.P. Carey gets an inside look at the finances of the companies it deals with and gets a little leverage to set the terms of the lease (like including inflation-linked rent increases).
W.P. Carey started life out as a master limited partnership (MLP), not a REIT. As such, it was off the radar screen for many individual investors due to the tax complications of the MLP structure. Many institutional investors wouldn't touch it, either, for the same reason. So the company made the decision to change to a REIT in 2012.
The company also operated a non-traded REIT business, in which it created, sold, and supported REITs that didn't trade on an exchange. It was basically paid fees for its efforts, only some of the fees it generated ended up being fairly lumpy in nature. This made it difficult to track W.P. Carey's core performance. It eventually chose to exit this operation, but the process was a multi-year effort. It is just about over now that the company has completed its purchase of its final large non-traded REIT, CPA 18.
The future looks brighter
When you put all of the moving parts here together, you get a well-positioned REIT that's been in a fairly long period of transition. From that perspective, the most recent changes required W.P. Carey to offset the income lost from exiting the non-traded REIT business with income growth in its owned portfolio. Knowing that the non-traded REIT fees were going away, it didn't make sense for management to over-promise on the dividend. Slow increases were simply the more prudent course of action. With this transition basically over, the company can shift gears on the dividend growth front if it is appropriate.
A key factor here is that all the REIT's investments will now be for its own portfolio, with no distractions. Rent from owned property is much more reliable and stable than fees. So portfolio growth, which has been strong of late, will make it easier for W.P. Carey to support a rising dividend over time.
The next issue of note is that nearly 60% of W.P. Carey's leases have cost-of-living rent increases built into them. Although inflation is high right now, for many years it was historically low. That meant modest rent hikes and, thus, modest growth for W.P. Carey's funds from operations (FFO) and dividend-paying ability.
With inflation high, however, W.P. Carey's rent increases are starting to ramp up. In 2021, the company's rent hikes were between 1.5% and 1.6% in each of the first three quarters. That rose to 1.8% in the fourth quarter and hit 3% in the second quarter of 2022. That should eventually pass through to dividends.
Never going to be exciting
All of that said, W.P. Carey isn't meant to be an exciting REIT. It is boring and slow, and that's just how management likes it. So investors shouldn't come in expecting dividend growth to ramp up to the double digits. However, dividend growth of around 1% a year over the past half-decade isn't likely to be indicative of what W.P. Carey can offer over the long term, either. Notably, the company's real estate revenues rose 7.9% year over year in the second quarter, driven by a mix of higher rents and portfolio acquisitions. With most of the transition in the rear view mirror, growth is picking up and that should eventually flow through to investor dividends.
If you can handle a dividend yield in the 5% space coupled with going forward dividend growth in, say, the mid-single digits, then W.P. Carey might be a good fit for you.
