Shares of Universal Health Realty Income Trust (UHT 1.46%) have fallen over 60% from their 2020 highs. That has pushed the dividend yield of this healthcare-focused real estate investment trust (REIT) up to an attractive 6.1%.
But investors should tread carefully here. While the dividend looks sustainable, there's some small problems that should keep most investors on the sidelines.
A solid core, with some issues
Universal Health Realty owns medical office buildings (68% of its portfolio as of 2022), acute-care properties (17%), and behavioral health assets (8%), with other property types, none of which accounts for more than 3% of the portfolio, making up the rest. That's a fairly reasonable mix, noting that medical office properties have been attractive assets as more health care services are being performed outside hospitals.
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In the first quarter of 2023, the REIT generated funds from operations (FFO) -- an important metric in REIT performance -- of $0.82 per share. That, however, was down from $0.90 in the same quarter in 2022.
There are a number of concerns here, including a vacant property that wasn't producing rent and carrying costs associated with that vacant asset. Also, higher interest rates have resulted in higher interest expenses for the REIT. Basically, investors are seeing Universal Health Realty's business come under pressure right now.
That $0.82-per-share FFO figure, meanwhile, has to be juxtaposed against the REIT's dividend, which was $0.715 per share in the first quarter. Some quick math shows that the FFO payout ratio in the first quarter was a fairly high 87%. That is up from around 78% in the first quarter of 2022. Clearly, the number is going in the wrong direction.
Things could get worse before they start to get better because dealing with a vacant property can take time to resolve -- especially a specialized property like the ones that Universal Health Realty owns. Interest costs are also unlikely to decline in the near term. And yet, there are positives to consider here as well.
Some history
For starters, Universal Health Realty is still covering its dividend with FFO, so there doesn't appear to be any imminent reason to believe it will cut its dividend. Moreover, the dividend was just increased again, suggesting that the board of directors is confident in the REIT's ability to support the dividend in the future.
On that front, the dividend has been increased annually for nearly four decades. This is not a REIT that thinks short term when it comes to the business or, likely, the dividend. Meanwhile, generally speaking, a REIT can support an FFO payout ratio of over 100% for a short period of time, so long as results eventually recover. There's no reason to think that won't happen here.
Also notable is that Universal Health Realty's dividend growth record is one of very modest annual increases. Over the past decade, the annualized increase was roughly 1.5%. That is basically the same figure you'll see over the trailing one-, three-, and five-year periods as well.
With that slow dividend growth rate, long-term investors aren't really expecting much. This is all about the dividend yield, which is attractive because it's near the highest levels of the past 10 years.
For dividend investors, however, that dividend growth rate needs to be compared with inflation, which is high right now but has averaged about 3% over the long term. Although the dividend has marched steadily higher, the buying power of the dividend has actually declined over time.
All in, even with a historically high 6.1% dividend yield, Universal Health Realty may not be the best option for investors trying to live off of the dividends their portfolio generates.
One more thorny issue
Another reason for investors to tread carefully here is that some of the company's property troubles of late have stemmed from properties it leases to Universal Health Services (UHS 0.58%). Notice the similar-sounding names? That company happens to be the external manager for Universal Health Realty. That brings up potential conflict of interest concerns for conservative investors.
At the end of the day, it looks like Universal Health Realty is still capable of covering its dividend. Coverage may get tighter over the near term, but history suggests that the REIT will figure out a way to muddle through while continuing its dividend streak.
Still, more aggressive investors should probably be worried about the slow dividend growth and external manager relationship. While Universal Health Realty's dividend looks reasonably safe, it still doesn't seem all that appealing, even at 6.1%.
