With the economy potentially headed for a recession, income investors should take a good look at their holdings, especially in the real estate investment trust (REIT) sector. REITs generally pay great yields, but they also use a lot of debt, which can lead to problems if the economy enters a downturn.
Kimco Realty (KIM 0.43%) is one of the more defensive REITs, and should be able to keep increasing its dividend even if the economy stumbles.
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Kimco Realty focuses on open-air supemarket-anchored shopping centers and mixed-use assets. The company has 526 properties with 91 million square feet of gross leasable area.
It is largely concentrated in big urban coastal markets. Kimco has a relatively diversified tenant base, with only 10 tenants accounting for more than 1% of base rent. The company's biggest tenants include TJX (TJX 0.75%) (parent of discount clothing chains T.J. Maxx and Marshalls, among others), Home Depot (HD 1.28%), and Amazon (AMZN +0.20%) subsidiary Whole Foods.
Kimco's business model will outperform in a recession
Kimco's tenant base is defensive in that supermarkets are largely insensitive to the overall economy. Even if the economy slows, people still buy food. Discount apparel retailers also benefit from a weakening economy. Home improvement is relatively defensive as well, especially since housing affordability has declined and many homeowners might choose to remodel versus moving.
There are a number of tailwinds
A few big macro stories benefit the company as well. Brick-and-mortar retailers are no longer out of favor relative to e-commerce; the omnichannel retail model captures the best of both worlds. Last-mile delivery logistics are expensive, and consumers increasing buy online and pick up at stores. The retailers prefer it as well since it saves on shipping.
Kimco says that retail construction has been a shadow of its former self since the Great Recession. As a percentage of total stock, new supply represents a mere 0.4% of existing stock. This is the lowest of all sectors. Restricted supply means that commercial REITs like Kimco have more pricing power.
Lack of available space means pricing power
This pricing power is translating into an occupancy rate that is approaching pre-pandemic levels. In the third quarter of 2022, occupancy stood at 95.3% compared to 96% in the first quarter of 2020. The all-time record for Kimco was 96.4%, in the fourth quarter of 2019, so the company has almost fully recovered from the pandemic-related issues that hurt almost every REIT out there.
Leasing spreads (the difference in price between old leases and new leases) were 16.5% in the third quarter, which was a big improvement from a year ago and the early days of the pandemic. On the third-quarter earnings conference call in October, Chief Executive Officer Conor Flynn said that its "strong credit tenants are finding it difficult to meet their new-store opening targets and have been aggressively pursuing opportunities."
The dividend is well covered
For 2022, Kimco has forecast funds from operations (FFO) per share to come in between $1.57 and $1.59. REITs like Kimco generally use FFO to describe their earnings. This is because net income as reported under generally accepted accounting principles understates the cash flow of the company. The reason is depreciation and amortization, which is a noncash charge. Almost all REITs, aside from mortgage REITs, use this metric.
Based on Kimco's FFO forecast, the stock trades at a price-to-FFO ratio of about 13, which is a reasonable multiple. The company hiked its dividend three times in 2022 to an annual $0.92, which is well covered by the company's forecast for FFO per share.
The payout ratio, which is the annual dividend divided by income (here we are using FFO per share) is only 58%, which is on the low side for a REIT. The company has plenty of wherewithal to continue increasing the dividend.
