Realty Income Corporation (O) has been investors’ favorite due to its reliable monthly dividend payments, ensuring a stable income stream. Also, the company delivered a solid performance in the fiscal year 2022. But given its significantly high valuation and slow price appreciation, this stock is best avoided now.
In this article, I have discussed several reasons why investing in this stock could be risky.
With a $41.02 billion market cap, O is dedicated to providing stockholders with a dependable monthly income in the form of dividends. The company is structured as a real estate investment trust (REIT). And its monthly dividend payouts are supported by the cash flow from more than 12,200 real estate properties primarily owned under long-term net lease agreements with its commercial clients.
To date, O has declared 634 consecutive common stock monthly dividends in its operating history of 54 years and raised the dividend 120 times since its listing on the NYSE in 1994. The company is a member of the S&P 500 Dividend Aristocrats index.
On March 14, 2023, O announced that its Board of Directors declared an increase in its monthly cash dividend from $0.2545 to $0.2550 per share of common stock. The dividend is payable on April 14, 2023, to stockholders of record as of April 3, 2023. The company pays a $3.06 per share dividend annually, translating to a 4.88% yield on the current price level. Its four-year average dividend yield is 4.25%.
Despite O’s attractive monthly dividend payouts, elevated valuation is a significant risk to the stock. In terms of forward non-GAAP P/E, it is currently trading at 48.34x, 49.4% higher than the industry average of 32.36x. The stock’s forward P/AFFO of 15.72x compares with the industry average of 14.34x. Also, its forward P/FFO of 15.21x is 22% higher than the 12.47x industry average.
Furthermore, the company is known for taking bigger investment risks, including the recent Plenty deal and its huge acquisition of casino assets last year.
On February 21, 2023, O and Plenty Unlimited Inc. announced that they entered a strategic real estate alliance to support the development of Plenty’s indoor vertical farms. Under the terms of the agreement, O will acquire and provide development funding for properties that will house Plenty’s indoor farms. Realty Income will provide up to $1 billion in capital over time.
This could be a good deal for both companies if things go well. However, if Plenty’s business model falters, O would be left owning specialized assets for which it might have difficulty finding a new tenant. So, investors are closely watching this high-risk Plenty deal.
O’s stock has been unable to sustain any meaningful upside rally since the pre-pandemic. Despite a bull market that surged from the second quarter of 2020 until the end of 2021, the stock failed to gain much upside traction. Over the past year, shares of O have declined 13.2% to close the last trading session at $62.10.
Here are the factors that could affect O’s performance in the upcoming months:
Negative Recent Development
On April 5, O priced a public offering of $400 million of 4.7% senior unsecured notes due December 15, 2028, and $600 million of 4.9% senior unsecured notes due July 15, 2033. The public offering price for the 2028 notes was 98.949% of the principal amount for an effective semi-annual yield to maturity of 4.912%. And the price for the 2033 notes was 98.02% of the principal amount for a semi-annual yield to maturity of 5.148%.
These notes’ offerings reflect an increase in the company’s liabilities.
Robust Financials
For the fourth quarter that ended December 31, 2022, O’s total revenue increased 29.7% year-over-year to $888.65 million. Its adjusted funds from operations (AFFO) available to stockholders grew 30.4% from the prior-year period to $633.97 million. Also, the company’s AFFO per share came in at $1, an increase of 6.4% year-over-year.
For the fiscal year 2022, the company’s total revenue grew 60.7% from the year-ago value to $3.34 billion. Its AFFO available to common stockholders was $2.40 billion, up 61.3% year-over-year, while its AFFO per share rose 9.2% year-over-year to $3.92.
Mixed Profitability
O’s trailing 12-month EBITDA margin of 89.07% is 58.8% higher than the industry average of 58.80%. Its trailing 12-month gross profit margin of 93.22% is 38.2% higher than the 67.46% industry average. Also, the stock’s trailing 12-month AFFO payout ratio and AFFO/total revenue of 76.01% are 77.54% compare to the respective industry averages of 74.29% and 41.85%.
However, the stock’s trailing 12-month dividend yield to a dividend payout ratio of 2.32% is 36% lower than the 3.62% industry average. Its trailing 12-month FFO yield of 6.51% is 18.3% lower than the industry average of 7.97%. Moreover, O’s trailing 12-month net income/total debt of 4.66x is 28.6% lower than the 6.52x industry average.
POWR Ratings Reflect Bleak Prospects
O’s overall D rating translates to a Sell in our proprietary POWR Ratings system. The POWR Ratings are calculated considering 118 distinct factors, with each factor weighted to an optimal degree.
Our proprietary rating system also evaluates each stock based on eight distinct categories. O has an F grade for Value, in sync with its higher-than-industry valuation. In addition, the stock has a C grade for Quality, consistent with its mixed profitability.
O is ranked #23 out of 30 stocks in the F-rated REITs-Retail industry
Beyond what I have stated above, we have also given O grades for Sentiment, Growth, Stability, and Momentum. Get all O ratings here.
Bottom Line
Realty Income, also known as “The Monthly Dividend Company,” is one of the market's most dependable and consistent dividend payers with a 5.1% dividend yield. The company’s financial results for the fourth quarter and full-year 2022 also did not disappoint. Despite being a high-yield REIT with solid financial performance, the stock's stretched valuation remains a major concern.
Also, there is significant uncertainty surrounding O’s risky investments, including the recent $1 billion transaction in vertical farming facilities. The stock is currently trading below its 50-day and 200-day moving averages of $64.15 and $65.32, respectively, indicating a downtrend.
Given its elevated valuation, uncertainty around its high-risk investments, and slow price appreciation, we think it could be wise to avoid this famous REIT now.
Stocks to Consider Instead of Realty Income Corporation (O)
The odds of O outperforming in the weeks and months ahead are significantly compromised. However, there are many REITs with impressive POWR Ratings. So, consider these three stocks rated B (Buy) instead:
Gaming and Leisure Properties, Inc. (GLPI)
Ladder Capital Corp (LADR)
Saul Centers, Inc. (BFS)
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O shares were trading at $62.31 per share on Wednesday afternoon, up $0.21 (+0.34%). Year-to-date, O has declined -0.61%, versus a 7.84% rise in the benchmark S&P 500 index during the same period.
About the Author: Mangeet Kaur Bouns
Mangeet’s keen interest in the stock market led her to become an investment researcher and financial journalist. Using her fundamental approach to analyzing stocks, Mangeet’s looks to help retail investors understand the underlying factors before making investment decisions.
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