07/01/10 Alexandria, Virgina — Realty Income Corporation (NYSE:O), a real estate investment trust (REIT), has decided to get involved in the wine industry by acquiring $269 million of winery and vineyard properties. It’s being portrayed by management as a good move for Realty Income, but Agora Financial research analyst Dan Amoss explains why it’s probably not.
From Amoss’ latest report to his readers:
“Yesterday, Realty Income (NYSE:O) announced an agreement to acquire $269 million worth of Napa, Calif., winery and vineyard properties under long-term, triple-net lease agreements with Diageo Chateau & Estate Wines. This is essentially Realty Income providing financing to Diageo; it’s exchanging a $269 million payment for a 20-year stream of rental income.
“Baird estimates that this sale-leaseback deal has an initial cash yield of 7.5%. The deal was largely financed by the closing of a 10-year $250 million bond offering, which was priced to yield 5.8%. So Realty Income continues its carry trade strategy: borrow at about 6%, invest the proceeds at 8-9%, and use the spread income (net of tenant defaults) to pay dividends. This strategy works beautifully in the bubble-era economy, but won’t work well at all going forward.
“That being said, with the stock still at $31, the market clearly doesn’t agree that Realty Income’s legacy rental income portfolio — full of second-rate strip mall operators — carries much risk. It seems all that matters to Realty Income’s overly confident shareholders is today’s dividend yield — not the sustainability of that yield, which I question.
“O stock remains near its all-time high, despite the May and June market weakness. And management has yet to properly address how it’s dealing with the planned liquidation of Movie Gallery, a tenant that accounted for 1% of revenue. Maintaining investor confidence is clearly more important to management than healthy disclosure of risks.”
Dan Amoss describes that much will still depend on how July 28 earnings pan out. Realty Income has been effective at maintaining investor confidence to date, but still needs to hit the right numbers to support management’s position. The best way to stay abreast of developments with O — and to gain Amoss’ specific recommendations — is to sign up for his newsletter, the Strategic Short Report. It’s available through the Agora Financial reports page, which can be found here.
Best,
Rocky Vega,
The Daily Reckoning
[Nothing in this post should be considered personalized investment advice. Agora Financial employees do not receive any type of compensation from companies covered. Investment decisions should be made in consultation with a financial advisor and only after reviewing relevant financial statements.]
Rocky Vega
Rocky Vega is publisher of The Daily Reckoning. Previously, he was founding publisher of UrbanTurf and RFID Update, which he operated from Brazil, Chile, and Puerto Rico, and associate publisher of FierceFinance. He specialized in direct marketing at MBI, facilitated MIT Sloan School of Management programs, and has been featured on CBS. Vega graduated with honors from Harvard University, where he was on the board of Let’s Go Publications and directed business programs involving McKinsey, Goldman Sachs, and Harvard Business School faculty. He is also enrolled at the Stockholm School of Economics.
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Why do you feel that O’s sale leaseback transaction will not perform well into the future?