Stock Bought: VTR

Today I bought shares of Ventas (VTR), a diversified healthcare REIT. The company owns over 1,400 properties and its net operating income (NOI) comes from seniors housing (27%), seniors housing operating assets (27%), skilled nursing facilities (20%), medical office buildings (17%), hospitals (7%), and loan assets (3%). Over half of its NOI comes from triple-net leases and 84% of revenue comes from private pay sources. Ventas is well-positioned to capitalize on the higher healthcare needs of the increasing population of seniors in the United States over the next few decades.

Ventas has a pretty good dividend track record. The 5- and 10-year dividend growth rates are 5.5% and 9.6%, respectively, and the most recent dividend increase was 8.1%, announced in February 2013. The company does not appear on the Dividend Champions, Contenders, and Challengers list because it froze its dividend in 2009, breaking a string of dividend increases that dated back to 2001. However, with a current streak of four consecutive years of dividend growth, Ventas will rejoin the Dividend Challengers with an increase in 2014. The company is in a good position for future dividend growth, with high single-digit percent growth in funds from operations (FFO) and a payout ratio (based on FFO) of just 65%, which is relatively low among REITs.

The company has a stable balance sheet, with a debt/capitalization ratio of 49% and adequate interest coverage. It has investment grade credit ratings from all the major agencies, allowing it to issue debt at low interest rates to fund new acquisitions. Value Line gives the company financial strength and safety ratings of B+ and 3, respectively.

I think VTR is undervalued at the current price. It has a P/FFO of 13.5 (using the estimated FFO for 2013), a P/S of 6.0 (vs. a 5-year historical average of 7.0), P/B of 1.8 (vs. 2.5), and dividend yield of 4.8% (vs. 4.4%). Using a Dividend Discount Model with a dividend growth rate of 5.5% (matching the 5-year historical rate) and a discount rate equal to the current yield plus the dividend growth rate, I calculate a fair value of $58.97. Morningstar gives a more generous fair value of $70.00 and a 4-star rating. The average of those two estimates is $64.49, which implies a 13% margin of safety at my purchase price.

Interested readers can find additional information about Ventas in two recent articles on Seeking Alpha and in an investor presentation from last month:

• Ventas: Get Blue Chip Quality Without Paying For It by Dane Bowler, published December 2, 2013
• Ventas Is 'Pound For Pound' One Of The Best REITs Around by Brad Thomas, published October 15, 2013
• Ventas Presentation - NAREIT REITWorld, November 2013 (PDF file)

I bought 40 shares of VTR at the price of $55.90 per share plus commission, giving me a 4.78% yield on cost. At the current dividend rate, I can expect to receive quarterly dividends of $26.80 from this purchase, which will add a total of $107.20 to my annual dividend income. The next dividend should be declared any day now and paid in late December, so I will not have to wait long for my first payment. This purchase was made in my Roth IRA using rollover money. Ventas becomes the 34th stock in my portfolio and the third REIT; I think it nicely complements my HCP position in the specialty area of healthcare REITs. My forward 12-month dividend total increases to $3,611.