If you are on the lookout for a high-yield stock, your search has probably turned up Brandywine Realty Trust (BDN -2.44%) and its huge 12% yield. Before you jump onto this dividend bandwagon, however, you need to do some homework.
The payout might not be sustainable given the headwinds that this real estate investment trust (REIT) and the broader market are facing. Here are some key facts.
It claims to be diversified, but ...
Brandywine Realty Trust's portfolio includes 67 office properties and five mixed-use developments. Another five properties are either in some stage of development, including one being leased. It has one property listed as held for sale.
Office assets account for roughly 85% of the REIT's leasable square footage. In short, even if the company likes to highlight its diversification, it is largely an office REIT that also happens to have some exposure to apartments and other asset types thanks to the relatively modest mixed-use component of its portfolio.
Image source: Getty Images.
And the vast majority of its portfolio is in and around Philadelphia, with a smaller exposure to Austin, Texas. There are a handful of properties in Washington, D.C., but the REIT is largely focused on just those two main markets. For better or worse, Brandywine has a pretty concentrated portfolio, property-wise and regionally speaking. That's not a great situation to be in when times get tough.
Offices are out of favor at the moment
When the coronavirus started to spread in 2020, social distancing and working from home were key methods to slow the illness's spread. Although companies are asking people to come back to the office, the work world has yet to return to its previous business patterns.
That left many offices less than full and companies closely examining the idea of reducing the amount of space they occupy. That's terrible news for office landlords, with even some of the most important cities still seemingly half-empty.
To put some numbers on that, Brandywine's portfolio was 95.5% leased at the end of 2019, before the pandemic; at the end of the third quarter of 2022, it was 91.8% leased. That figure is down from 92.7% leased in the third quarter of 2021. Clearly, the leasing figures are going in the wrong direction here, though to be fair, the entire office sector is facing a similar weakness.
Borrowing costs and other expenses are rising
Adding to Brandywine's troubles is the fact that interest rates are rising. That makes borrowing more expensive. Looking at the income statement, interest expense rose roughly $1.9 million year over year in the third quarter, or about 12%. That's a fairly sizable change, though some portion of that is related to increased borrowing under a credit facility. Still, rising rates will make it more expensive to borrow. Consider that the REIT recently issued debt at 7.55% so it could pay down soon-to-mature debt costing 3.95%.
Inflation is also higher. That's an issue because the company's employees will be looking for raises and it has a number of construction projects in the works (where both wages and the price of construction materials are both likely to be heading higher). Each will end up increasing the company's expenses at a time when the business is working through a difficult operating environment.
Things are already tight
All of the above issues are survivable, so it isn't as if Brandywine is facing some existential risk. But when you combine the above headwinds with the fact that the REIT is expecting to pay out between 84% and 95% of its cash available for distribution in 2022, you start to see the problem.
Brandywine's dividend is already pushing the bounds of safety. That margin looks like it is going to be squeezed even tighter as 2023 gets underway. The dividend yield is so high because investors anticipate a dividend cut. Given that office peers like SL Green Realty and Vornado Realty Trust have either already announced or sternly warned about payout cuts, it seems like dividend investors have every reason to worry.
A tough time
Brandywine isn't a bad REIT per se, but it is operating through a very difficult period for office REITs. The news is likely to get worse before it gets better. And that means that the dividend could be at risk. While the company might decide to protect the current quarterly dividend, investors looking for reliable dividend stocks probably shouldn't go in assuming it will. The risk of a dividend cut here is high.
