Benjamin Graham -- the man who helped train Warren Buffett -- warned that paying too much for a good company can turn it into a bad investment. That's an important warning, especially with the broader market trading near all-time highs. But some companies deserve a premium price, and it's worth paying up for them. Real estate investment trust (REIT) Realty Income (NYSE: O) is a perfect example. Here's why.
1. A price that's not cheap, but...
If you look over the past decade, Realty Income's yield has been as high as 6.5% -- in the depths of the 2020 coronavirus-driven bear market -- and as low as 3.5%. The current yield of roughly 3.9% is toward the low side of that range. However, eyeballing the yield trend on a graph, it looks like it's just a touch below the midpoint of the longer-term trend.
So, the REIT is certainly not cheap, but it doesn't look crazy expensive either. It is, perhaps, best viewed as fair to slightly expensive.
Value hunters definitely won't be interested and would be better off waiting for a stronger entry point. If history is any guide, however, that could be a long wait and involve putting money to work during a period filled with fear (not an easy task, emotionally speaking). Meanwhile, income investors looking for a reliable dividend payer that's stood the test of time might find paying a fair price -- maybe even a bit more -- very appropriate here.
2. A reliable and consistent dividend
One of the first things to like about Realty Income is its dividend. For starters, it's paid monthly, which is kind of like replacing a paycheck. Second, it has been increased annually for over 25 consecutive years, putting this REIT into the exclusive Dividend Aristocrat category. Third, the dividend has increased at an annualized rate of 4.4% since its 1994 initial public offering (IPO), which outpaces the historical 3% average for inflation.
In other words, the buying power of Realty Income's dividend has increased over time. It's also worth highlighting that the REIT hiked its dividend each quarter in 2020, despite the pandemic. Returning cash to investors via a reliable and growing dividend is obviously a top priority -- so much so, in fact, that the REIT nicknamed itself "The Monthly Dividend Company."
3. A conservative and scalable business model
Another thing to like about Realty Income is its focus on net lease properties. Without getting too deeply into it, the company owns the properties in its portfolio, but its lessees are responsible for most of the operating costs of the assets they occupy. Realty Income earns the difference between its cost of capital and the rents it collects. Net lease is generally considered a low-risk way to own property. It is definitely a low-cost approach.
However, a really big benefit is that as long as the REIT can raise cheap capital, it can keep growing profitably. So, in some ways, a fair to premium stock price is good for the company and its shareholders because it supports long-term growth. With over 6,000 properties, there's no reason to think Realty Income lacks the ability to keep expanding (more on this in a second).
4. A solid foundation
Raising cash isn't just about stock sales. Which is why it's nice to see that Realty Income has an investment-grade-rated balance sheet, meaning it can issue debt at advantaged rates. But there's another benefit here: Being investment-grade also means that Realty Income is financially strong, which will appease conservative types who like to err on the side of safety when buying stock.
5. A positive catalyst
If all that isn't enough to entice you to pay up for Realty Income, there's one more fact to look at -- it's in the process of buying peer VEREIT (NYSE: VER). The deal has been approved by both companies' shareholders and is expected to be consummated in the fourth quarter. There are a number of benefits.
The acquisition is expected to be 10% accretive from day one. The portfolio will grow to over 10,000 properties. The combined companies will spin off a separately traded office REIT, removing a less desirable net-lease asset class from its mix. Cost-cutting will happen immediately as redundant job functions are eliminated, as well as over time as VEREIT's higher-cost debt gets refinanced at Realty Income's lower rates.
And Realty Income will be the undisputed king of the net-lease sector, able to take on deals that smaller peers couldn't even consider. In other words, this is a great company on the verge of getting even better.
Sometimes, you pay for what you get
As already noted, if you are a value investor, you probably won't want to buy Realty Income, despite its many positive attributes. But waiting for a better price may also mean that you never end up buying it because investors are aware of how well it's run, and they price it accordingly. For conservative investors looking for a reliable dividend stock today, Realty Income is probably worth every penny it costs.