The real estate sector is flooded with strong dividend stocks like National Retail Properties (NYSE:NNN) and W.P. Carey (NYSE:WPC), which own billions' worth of commercial real estate they lease to high-quality tenants.
Today, I'll dig into each company's dividend, diversity, tenant occupancy, and balance sheet to determine which of these real estate titans is the better dividend stock.
By increasing its dividend for 25 consecutive years, National Retail is now officially a Dividend Aristocrat.
W.P. Carey has paid a dividend since the late 1990s, but has only been a real estate investment trust since October 2012. REITs are required to pay out the majority of their earnings in dividends, which accounts for the huge jump in the company's dividend per share over the last few years.
National Retail's dividend might have a longer track record, but how fast that payout is growing is just as important. This is because over time inflation can suck the buying power out of your dividends.
W.P. Carey's dividend has grown at an average rate of 19% since its first payment as a REIT in December 2012. That leaves it with a small sample size, and ultimately with an unsustainable rate of dividend growth. For comparison, National Retail's dividend has grown by 2.4% per year over the last decade, which has just about kept pace with inflation.
Lastly, investors need to make sure the dividend is safe. Over the first nine months of 2014, W.P. Carey paid 77% and National Retail paid 81% of their funds from operations toward dividends. Funds from operations, or FFO, is a good indicator of how much each company is earning from its real estate investments.
While a ratio in the 80% range would be outrageously high for most companies, since REITs pay out such a high percentage of earnings a payout-to-FFO ratio below 85% is considered reasonable.
While both companies' dividend looks safe for now, one of the keys to keeping it that way is by owning a diverse portfolio of properties.
As of November, W.P. Carey owns 688 properties across 17 countries, with 215 tenants. While 68% of the company's rent comes from properties in the U.S., CEO Trevor Bond suggested during the third-quarter conference call that some of the most attractive opportunities are in Europe, which provides the remaining 32% of rent.
W.P. Carey primarily focuses on tenants in the retail industry, but invests to a lesser extent across over a dozen other industries. No single tenant accounts for more than 6% of annual rent. This ensures the loss of any one tenant does not have a significantly negative impact on earnings. Finally, W.P. Carey creates 10% of revenue through managing assets for other REITs. This is fairly unique among REITs and offers an extra layer of diversification.
National Retail Properties
National Retail owns 2,038 properties in 47 states, leased primarily to retail-focused tenants. Florida and Texas represent 31% of annual rent, but no other state represents more than 6%. As with W.P. Carey, no one tenant accounts for more than 6% of annual rent.
While National Retail owns nearly three times as many properties, I believe W.P. Carey's asset management business and European exposure gives it a more uniquely diverse array of assets.
Diversity of assets is unquestionably important, but properties alone are pretty useless if they aren't occupied and under long-term leases.
As of the third quarter, 98.9% of National Retail's properties and 98.1% of W.P. Carey's properties were occupied -- both figures are among the best in the industry. Moreover, the high level of occupancy is unlikely to change, as National Retail's average lease length is 12 years and W.P. Carey's is 8.5 years.
This is a big plus for both companies, as long-term leases and high occupancy help to keep cash flows more predictable and consistent. Still, as this is a competition, National Retail looks slightly better.
The final piece to the puzzle is ensuring both companies have a durable balance sheet; one of the simplest ways to judge this is by looking at coverage ratios. This compares how much a company is earning before interest, taxes, depreciation, and amortization, or EBITDA, to how much it is paying out in interest (debt) expense.
Over the first nine months of 2014, National Retail's coverage ratio was 4.4 and W.P Carey's was 4.2. This means they earned 4.4 and 4.2 times more, respectively, than they paid out in interest expenses. More importantly, it means both companies have ample earnings to cover their interest payments and have a very limited risk of defaulting on their loans.
And the winner is...
For me, it came down to W.P. Carey's foothold in Europe. Not only does it open up that much more opportunity, but understanding the real estate dynamics in several countries creates a barrier to other companies creating a similar portfolio. So, while I believe both companies are more-than-worthy investments, I lean toward W.P. Carey as the better dividend stock today.