Omega Healthcare Investors is a REIT that focuses on owning properties for skilled nursing facilities.
For a decent combination of yield and growth, OHI may be a solid pick at the current price in the low $30’s.
As of the most recent quarter, Omega Healthcare Investors (NYSE: OHI) held a portfolio of 479 healthcare facilities located in 34 states and run by 46 third-party operators. Out of these 479 facilities, 418 are owned skilled nursing facilities, 16 are assisted living facilities, 11 are specialty facilities, and 2 are held-for-sale facilities. The remaining 32 facilities are skilled nursing facilities that Omega provides mortgages for rather than rental leasing agreements. They also hold a portfolio of secured loans to some of their facility operators.
Omega, as a Real Estate Investment Trust, focuses on owning the portfolio of properties or in some cases providing mortgages and loans, while the third-party operators run the day to day operations of the facilities as tenants. In 2012, Omega brought in $350 million in revenue, of which $315 million came from rental income, $30 million from mortgage income, a bit under $5 million from other interest income, and less than $1 million from other miscellaneous income.
(Chart Source: DividendMonk.com)
Total revenue grew by nearly 16% per year over this period on average. Much of this substantial revenue growth was fueled by the regular issuance of new shares, but revenue growth per share was still rather solid at nearly 6% per year.
FFO and Dividends
(Chart Source: DividendMonk.com)
Because REITs have large amounts of depreciation on their statements, funds from operations (FFO) is the more useful metric than earnings for a REIT. FFO consists of earnings with depreciation and amortization added back in.
For Omega, FFO per share grew by over 12% per year on average over this charting period. The dividend growth over the same period was a bit over 9% per year. In 2012, the payout ratio of dividends from FFO was about 82%. The current dividend yield for Omega is 5.82%.
Approximate historical dividend yield at beginning of each year:
Omega has $2.57 billion in assets and $1.47 billion in liabilities, including $1.18 billion in unsecured debt.
The REIT brought in $350 million of revenue in 2012, and among other expenses, $98 million was paid in debt interest. The reported FFO was $222 million.
According to a May 2013 investor presentation, Omega targets a debt-to-adjusted-EBITDA ratio of 4-5x. Omega has reported that they have stayed within that range during the 2005-2012 reporting period, and that the most recent ratio as of March 2013 is 4.4x. There is little in the way of debt maturity until after 2020.
Overall, Omega’s financial condition appears to be in good order.
Omega owns a portfolio of healthcare facility properties, and regularly issues new shares in order to fund new purchases of $100-$300 million per year or more. Over the last several years there has been a track record of profitable decisions that resulted in solid growth per share of revenue, funds from operations, and dividends while maintaining fairly consistent levels of leverage.
According to a report by the U.S. Census Bureau, the population of Americans aged 80+ is expected to expand from 11.5 million people in 2010 to 12.8 million people in 2020 to 18.9 million people in 2030, and continuing the growing trend thereafter. Both the absolute population of older individuals and the percent of the total populations that these individuals form, are expected to grow for the foreseeable future.
Research indicates that while inpatient rehabilitation facilities result in a better and faster recovery from illness or injury, skilled nursing facilities cost about a third as much for recovery of things such as strokes, hip fractures, joint replacements, and various other impairments. Omega Healthcare’s properties on average have maintained 80+% occupancy over the last decade.
Omega is diversified in terms of operators and geography, but concentrated in terms of industry. With a focus on skilled nursing facilities and to a lesser extent assisted living facilities, Omega’s operators are highly dependent for a chunk of their income on Medicare. Omega’s 2012 annual report points out that according to the Alliance for Quality Nursing Home Care, over 70% of residents in skilled nursing facilities rely on Medicare and/or Medicaid funding. About 6% of expenditures from Medicare are cited as going to skilled nursing facilities. Medicare, being one of the largest public expenditures in the United States, is widely viewed as being underfunded currently and increasingly so in the future compared to its expenditures. The United States has the highest per capita expenditure of health care in the world (including both private and public spending), which is a significant drain on overall economic development and the federal balance sheet.
As part of long-term budget control, any cuts to Medicare could trickle down and impact Omega’s portfolio of facilities by reducing the financial health of the operators within the industry. Alternatively, cost-saving strategies in public health care expenditures could conceivably benefit Omega by directing some patients away from higher-cost facilities. Over the last decade, the number of patients in skilled nursing facilities at any given time on average has declined slightly from 1.465 million to 1.383 million despite steady population growth. According to a 2009 article, the trend is away from skilled nursing facilities and towards assisted living facilities, which are cheaper than SNFs and with less care, and home care which is cheaper still. Omega does own assisted living property as a smaller subset of their portfolio, and with their rate of investments in new facilities per year, they can most likely keep up with any changing trends by balancing their portfolio of properties accordingly.
Conclusion and Valuation
Omega appears to have been a real gem in terms of dividend yield and dividend growth in 2008 through 2012. The stock price unfortunately really took off in 2013, topping out at around $37, before falling below $30 and then stabilizing around its current price of a bit under $32.
According to the Dividend Discount Model, the current price of Omega in the low $30’s is fair for investors targeting a 10% long-term rate of total return assuming that Omega can grow the dividend by just 4.5% per year for the long-term. A 5.5% long-term dividend growth rate would bump the fair price up to the low $40’s. To put that into perspective, Omega has recently averaged 9% dividend growth per year, so a margin of safety exists as long as the REIT continues to be well-managed.
Overall, Omega may not be as undervalued as it appears to have been throughout the 2008-2012 period, but after the recent plunge in the stock price in 2013 back down to this price in the low $30’s after an earlier rise, the REIT appears to be a solid bet for a 5.82% dividend yield and expectations of decent overall total returns from dividend growth as well.
Full Disclosure: As of this writing, I have no position in OHI.
You can see my dividend portfolio here.
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