Real estate investment trusts (REITs) can be a great way to balance out high dividend income and capital appreciation. These dividends can be used to pay bills or to turbocharge returns through dividend reinvestment.
The blue-chip REIT Realty Income (O -0.17%) has been a winning investment ever since going public in 1994. An investment of $5,000 in the stock made 29 years ago would now be worth a staggering $246,610 with dividends reinvested. For context, that is triple the $82,260 that the same investment amount in the S&P 500 index would be valued at today. Let's detail Realty Income's fundamentals to better understand what's behind these market-obliterating returns.
A proven business model
Sometimes businesses don't want to deal with financial institutions to have their capital needs met. When this is the case, sale-leaseback transactions offer an alternative way for a company to harness the equity stake they have in their real estate.
Arguably no REIT on the planet is more well-versed in sale-leaseback dealmaking than Realty Income. Everybody walks away a winner: Clients obtain funds that they can use to repay debt, expand their businesses, or take care of other needs. Realty Income gets leases with annual escalators and an average term of almost a decade. Thus, the REIT's property portfolio has blossomed from one Taco Bell property in 1969 to over 13,100 properties scattered across the U.S. and Puerto Rico, Italy, Spain, the United Kingdom, and Ireland.
As you'd expect from an established REIT, Realty Income's property portfolio is quite diversified: The company has over 1,300 clients, with its top 20 comprising approximately 41% of its total annualized base rent. Along with the fact that 91% of its tenants operate in non-discretionary, low price point or service-oriented retail or non-retail industries, this largely insulates Realty Income from e-commerce risks and recessions. These characteristics explain how the REIT's adjusted funds from operations (AFFO) per share have grown each of the last 27 years, except for 2009. Thanks to this remarkable consistency, Realty Income's AFFO per share has grown by 5% annually since 1995.
Operating in a U.S. and European net-lease commercial real estate market worth a combined $12 trillion-plus, the REIT looks to have a lengthy growth runway. And because of the vastness of its addressable market, Realty Income can remain steadfast in acquiring only the best of the best properties among its sourced volume.
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Plenty of payout growth lies ahead
Realty Income's 5.2% dividend yield is exceptionally high compared to the S&P 500 index's 1.5% yield. And the best news is that this generous dividend is at minimal risk of being cut anytime soon.
This is because the company's dividend payout ratio is positioned to come in within the mid- to high-70% range in 2023. Combined with equity and debt issuances, this leaves the company with enough cash to execute more than $7 billion in property acquisitions this year. This level of acquisition activity should help Realty Income continue growing its payout by 4% to 5% annually for the foreseeable future.
An alluring valuation for a superb business
Having shed 20% of its share price in the past 12 months, shares of Realty Income currently look to be oversold. Rising AFFO per share along with the falling share price has pushed the stock's price-to-AFFO ratio down to less than 15.
It's also worth noting that the 5.2% dividend yield is meaningfully higher than the 30-year treasury rate of 4.2%. Given Realty Income's bond-like properties as a stock, analysts expect the stock to recover -- this is why the average 12-month share price target is $70, which offers solid upside from the current $59 share price. That makes shares of Realty Income a tempting buy for income investors in my opinion.
