Healthcare is a necessity, not an option. That's a tailwind for healthcare real estate investment trusts (REITs) like Medical Properties Trust (MPW -1.10%). However, with the REIT offering a massive 13% dividend yield today, even aggressive investors have to step back and question what's going on before buying the stock. A recent asset sale hints at the answer.
Not a bad year
As far as it goes, 2022 was a fairly decent year for hospital REIT Medical Properties when you look at its numbers. Total revenue, which includes rent and interest, was basically flat. Costs rose, which isn't shocking given the elevated rate of inflation. Interest expense actually declined a touch, which is a surprise given rising interest rates. And adjusted funds from operations (FFO) came in at $1.42 per share for the year, up from $1.37 in 2021.
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The full-year dividend in 2022 added up to $1.16 per share. That put the adjusted FFO payout ratio at a reasonable 82% or so. From this point of view, there doesn't appear to be any reason to worry about Medical Properties' huge dividend yield. In fact, it looks like the high yield could even be a buying opportunity. And then, early this year, the company sold 11 hospitals in Australia.
Here's a quick rundown of the important details. The hospitals were acquired in mid-2019 using a five-year term loan. The sale proceeds will allow the REIT to repay that term loan in full. So basically, it is getting out even. That's not a terrible outcome, but the bigger question is why sell a property portfolio that was only just added to the mix?
Rollover risk
When a REIT buys a property, it will often pay with some sort of short-term financing and then find a permanent way to pay for the deal. In this case, the term loan was the short-term financing.
With that loan coming due soon, Medical Properties needed to find the cash to pay it back. Selling stock was one option, but with the shares down around 60% from their high-water mark in 2022 -- pushing the yield up to 13% -- that would have been a very expensive option. Another choice would be to sell debt or take on a mortgage, but with interest rates pushing higher over the past year, that also would have been an expensive choice.
Basically, with no good way to deal with the term loan, management chose to sell the portfolio. It is also worth noting that the company highlighted during its fourth-quarter 2022 earnings call that the high cost of debt today is likely to keep it on the sidelines in 2023 with regard to buying new assets.
Clearly, the debt picture is something that management is watching, and a quick look at the company's annual report suggests that investors should be watching, too.
As of the end of 2022, the company had roughly 67% of its debt rolling over in the next five years. If it couldn't roll over the term loan on the Australian portfolio at rates that made sense, it is highly likely that it will have trouble rolling over all of the other debt that's set to come due in relatively short order.
And since equity sales are expensive as well, because of the stock price decline and high yield, it seems like the REIT has few attractive options to deal with what lies ahead. On that note, it's also worth highlighting that Medical Properties' normalized FFO declined throughout 2022, hinting that underlying operations are weakening and, thus, the rollover risk isn't the only problem management may be contending with today.
A glass half empty
Given the backdrop, selling the Aussie portfolio looks like it was a good call, but it doesn't solve the bigger rollover problem the REIT is facing. And if it can't find a reasonably priced way to deal with the debt that's coming due, a very quick way to free up cash (perhaps to afford higher interest expenses as it rolls over maturing debt) would be to cut the dividend.
In a worst-case scenario, it could be the only viable option. Dividend investors should tread carefully here given that, reading between the lines, the Australian asset sale appears to have come from a position of weakness.
