Office Properties' Dividend Gets Whacked: Isolated Case Or The Start of A Trend?

For an income investor, experiencing the overnight announcement of a severe dividend cut on one of your stocks can be particularly distressing. Not only does it result in the loss of expected income, but the stock may be trounced as investors quickly head for the exits at the opening bell.

This week, an office real estate investment trust (REIT) with a checkered dividend history served as a harsh reminder of the risks associated with yield traps, as a 16% yield evaporated overnight following a bleak company announcement. Take a look.

Office Properties Income Trust OPI is a Newton, Massachusetts-based office REIT with 154 properties covering 20.7 million square feet. As of the third quarter, its occupancy rate was 89.9%. Office Properties is externally managed by the RMR Group RMR.

In September, after a great deal of opposition from shareholders, Office Properties Income Trust agreed to terminate its proposed merger from April with Diversified Healthcare Trust DHC, another REIT managed by the RMR Group. That announcement, along with the Federal Reserve's pause on interest rate hikes, helped propel Office Properties higher throughout the rest of 2023. Office Properties was one of the top five REITs in December with a 31.18% gain.

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On Oct. 30, Office Properties Income Trust announced its third-quarter operating results. Funds from operations (FFO) of $1.02 beat the estimates of $0.99 but declined from FFO of $1.11 in the third quarter of 2022. Revenue of $133.36 million beat the estimates of $132.74 million but was below revenue of $137.68 million in the third quarter of 2022. 

The day after the earnings announcement, B. Riley Securities maintained a Buy rating on Office Properties but lowered the price target from $17 to $13.50.

As January began, former President and CEO Christopher Bilotto was moved from Office Properties to become president and CEO of Diversified Healthcare. Yael Duffy, who was a senior vice president of RMR Group and also the president and chief operating officer of Industrial Logistics Properties Trust ILPT, took over as president and COO of Office Properties Trust.

For Duffy, the timing of her new tenure could not have been worse. On Jan. 11, Office Properties Trust announced its board of trustees voted to reduce the regular quarterly dividend from $0.25 to $0.01 per share. The $0.01 per share distribution will be paid on Feb. 15 to shareholders of record as of the close of business on Jan. 22.

This was not the first time Office Properties slashed its dividend. In January 2019, the dividend was cut from $1.72 per share to $0.55 per share. In April 2023, the $0.55 dividend was cut to $0.25 per share.  

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Why did the board cut the dividend to the bone this time?

“Given the deterioration in market conditions since we last addressed our dividend rate in the first half of 2023, we believe it is prudent to further reduce the dividend to increase our liquidity and financial flexibility when addressing future leasing costs, capital expenditures and debt maturities," Duffy said. "This new dividend rate will immediately increase OPI’s liquidity by approximately $47 million per year as well as increase liquidity by approximately $105 million per year as compared to the dividend rate paid in Q1 2023.”

While the last part of that statement sounded positive, Wall Street wasn't having any of it. The announcement sent Office Properties' shares tumbling more than 33% lower soon after the opening bell. By 10 a.m., it was down over 38%.

The larger question now is- will other office REITs be likely to follow suit and cut dividends for similar reasons?  SL Green Realty Corp. SLG has cut its monthly dividend by 7.7%, from $0.2708 to $0.25 per share in December. WP Carey Inc. WPC recently sold most of its office properties and spun off the rest into Net Lease Office Properties Inc. NLOP but at the same time cut its quarterly dividend 19.7% from $1.07 per share to $0.86 per share.

Brandywine Realty Trust BDN, with its 10.79% dividend yield, appears to be another office REIT that could reduce its dividend this year. Although it cut the quarterly dividend last October from $0.19 per share to $0.15 per share, and despite a payout ratio of only 51%, it still has a meaningful amount of debt to resolve. Creative Media & Community Trust Corp. CMCT has an annual dividend yield of 9.29%, and last quarter it reported FFO of negative $0.33. These and other office REIT dividends could be at further risk.

This week, Moody's Analytics published new data, showing that 20% of U.S. offices are sitting empty, the highest vacancy rate seen since 1979. In SL Green's most recent quarterly report, its occupancy rate was slightly higher than the previous quarter but was down from 92.8% to 89.9% year over year. Vornado Realty Trust VNO reported a 3% decrease in occupancy between the third quarter of 2022 and the third quarter of 2023. Its short interest is now up to 10.32%. Other office REITs have reported similar occupancy declines.

With office REITs set to report fourth-quarter operating results within the next two or three weeks, further vacancy increases will likely be reported. Office REITs have had remarkable runs in share price since the beginning of November, but now could be the time for investors with profits to consider placing protective stop losses or writing covered calls on their profitable positions.

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