Over the coming decades, the aging of the U.S. population is going be one of the largest demographic and economic megatrends, creating potential investment opportunities for long-term dividend investors.
Let’s take a look to see if Ventas (VTR), America’s second largest medical Real Estate Investment Trust, or REIT, could be a sensible choice for low risk investors to ride the coming financial wave of growing medical spending.
Ventas stock has slumped nearly 20% over the last three months and offers a dividend yield near 5%, potentially providing an appealing entry point. Let’s take a closer look at the business for consideration in our Conservative Retirees dividend portfolio.
Business Description
Ventas is one of the two dominant players in medical real estate assets. After the 2015 spinoff of its skilled nursing facility, or SNF, properties into a separate REIT, Care Capital Properties (CCP), its business is dominated by 1,275 properties, mostly in the senior housing, medical office buildings, and hospital sectors.
As seen below, the company’s largest assets by net operating income (NOI) are seniors housing – operating (31%), seniors housing – NNN (24%), and medical office (19%). Ventas also has several large operators, with Atia, Lillibridge, Sunrise, and Kindred accounting for 19%, 11%, 9%, and 9% of NOI, respectively.
Source: Ventas Investor Presentation
Business Analysis
The medical REIT industry is over $1 trillion in size and highly fragmented, with only about 15% of U.S. medical assets owned by medical REITs. Compared to other industries, healthcare REITs control a relatively small percentage of real estate assets and should have opportunities for consolidation.
Source: Ventas Investor Presentation
This means that sales and cash flow growth (specifically free cash flow, or what Ventas calls Funds Available for Distribution, or FAD) can be lumpy. This lumpiness is reflected in Ventas’ solid, though volatile, growth track record.
Source: Simply Safe Dividends
Most recently, the company’s quarterly revenue grew by roughly 5%. Note that two of the most important metrics to watch, growth in FAD/share (which funds the dividend) and the FAD payout ratio (how safe the dividend is), were the result of two countervailing deals.
| Metric | Q3 2016 | Q3 2015 | YoY Change |
| Revenue | $866.6 million | $827.6 million | 4.7% |
| Normalized FAD | $314.2 million | $231.6 million | 35.7% |
| Shares Outstanding | 354.2 million | 336.3 million | 5.3% |
| Normalized FAD/Share | $0.89 | $0.69 | 28.8% |
| Dividend | $0.73 | $0.73 | 0% |
| Dividend Payout Ratio | 82.3% | 106.0% | -22.4% |
Source: Earnings Supplement
The first deal disposed of over $4 billion in skilled nursing facilities (SNFs) by spinning them off into a new REIT, Care Capital Properties (CCP). The CCP spin off resulted in a decline in cash flow that resulted in last year’s Q3 payout ratio rising above 100%. However, the spinoff strengthened Ventas’ portfolio, improving its mix of private pay contributions, reducing its exposure to SNFs, and boosting occupancy.
Thanks to a stronger balance sheet, Ventas, unlike its rival HCP (HCP), which is also spinning off its SNF properties into a separate REIT, was able to maintain its dividend.
In comparison, HCP just announced that the loss of cash flow from its spinoff would require a 36% dividend cut, ending its streak of 30 consecutive years of dividend increases, and its dividend aristocrat status.
The big differentiator between Ventas and HCP was in its balance sheet and the quality of its management team.
For example, Ventas has continued to grow through acquisition, with over $1.4 billion in net investments during the first three quarters of 2016. This is mainly made up of the $1.5 billionacquisition of Wexford Life Sciences, which consists of 25 current, and under construction research labs used by some of America’s most prestigious research institutions such as Yale, Duke, and Washington University.
It also gives Ventas about a 10% market share in the fast growing, $38 billion university R&D industry, itself part of a far larger $259 billion global R&D industry. Better yet, this industry is only set to grow as drug makers race to create new drugs to treat the world’s increasingly older citizens.
Of course, all these growth acquisitions could hurt long-term dividend investors if management were to go overboard with debt, as HCP’s did in recent years, and create a balance sheet that threatened its ability to grow, or even maintain the current payout.
