Shares in Care REIT (LSE:CRT) are currently trading 32% below the firm’s net asset value (NAV). And the stock has an 8.5% dividend yield for passive income investors at the moment.
It’s real estate investment trust (REIT) in a sector that I think looks highly promising and there’s a lot to like about the underlying business. As a result, I’m adding it to my list of stocks to keep an eye on.
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Care homes
Despite a brief interruption during the pandemic, people in the UK tend to be living longer. As a result, I expect long-term demand for care homes to be strong.
Care REIT isn’t the largest operator in the sector – that’s Target Healthcare REIT. But it owns a portfolio of 140 properties (mostly care homes) that it leases to providers.
The majority of its tenants are local authorities, which make up around 58% of its income. The rest are a mixture of private organisations (31%), and the NHS (11%).
All of this looks encouraging and in its most recent update, Care REIT stated its NAV to be 118.74p per share. So with the stock trading at around 81p, I’m interested in a closer look.
Key metrics
There are several key metrics I look at in a REIT. On the operational side, I’m interested first and foremost in the company’s ability to attract tenants and collect rental income from them.
Care REIT’s occupancy level is around 89%. That’s good, rather than great, but the thing that really stands out to me is the amount of time left on its current leases.
The average lease expires 20 years from now, which is exceptionally long. And with rent increases linked to inflation, this could be a sign of a long-term passive income opportunity.
The other metric I look at is rent collection. While local authority budgets might be under pressure, Care REIT regularly collects 100% of its expected rent – can’t say fairer than that.
Financing
REITs have to distribute 90% of their rental income to investors as dividends. This makes them interesting passive income opportunities, but it can also create complications.
Being unable to retain earnings means REITs often have a lot of debt on their balance sheets. And investors need to pay attention to how the company manages this.
At the moment, Care REIT has an average cost of debt of around 4.68%. And a lot of it doesn’t expire until 2035, giving the company a lot of time to plan and prepare.
Around 30%, however, is set to mature in 2026. So if rates don’t come down, the firm might find itself paying out more in interest costs, which could cut into profits – and dividends.
On my radar
The question for investors is whether a 32% discount to NAV and an 8.5% dividend yield is enough to offset this risk. I think it might well be.
If Care REIT pays off its 2026 debt by issuing equity, that would increase the share count by 22%. Other things being equal, that would bring the dividend yield down to 6.8%.
While the debt issue shouldn’t be discounted, I also see shares in Care REIT as good value at the moment. It’s going on my list of stocks to keep an eye on next time I’m looking to invest.
