Realty Income Corporation (NYSE:O), a leading real estate investment trust (REIT), is set to make a monumental move with its acquisition of Spirit Realty Capital, Inc. (NYSE:SRC) in a landmark $9 billion deal. This strategic acquisition is expected to enhance Realty Income’s scale, diversify its portfolio, and create immediate value, making the real estate investment trust an enticing prospect for investors. With Realty Income’s stock already trading at an attractive valuation, the timing of this deal presents a unique investment opportunity.
What to Expect from the Acquisition?
Realty Income Corporation is an influential net lease real estate investment trust that has agreed to acquire Spirit Realty Capital in an all-stock transaction. Under the terms of the deal, shareholders of Spirit Realty Capital will receive 0.762 shares of Realty Income for each share they hold, resulting in an increase in share count. However, due to the anticipated boost to Realty Income’s company-wide profits and cash flows post-acquisition, the per-share profits and cash flows are expected to remain steady in the long run.
When a company acquires another company at a valuation lower than its own, the deal is typically accretive on a per-share basis, even when new shares are issued. In this case, Realty Income forecasts a minimum 2.5% increase in adjusted funds from operations (FFO) per share as a result of the acquisition. This projection holds true when considering Spirit Realty’s attractive valuation compared to Realty Income’s. The accretive nature of the deal, as well as the potential for synergies and growth, make it an appealing prospect for both companies.
The Growth Story of Realty Income
Realty Income Corporation has an impressive track record of generating shareholder value over the long term, primarily through its aggressive growth strategy. The company has consistently expanded its business by acquiring assets, asset portfolios, and even entire companies. While some investors may shy away from growth-focused income investments, Realty Income’s strategy has proven highly successful and rewarding for its shareholders.
Despite a 240% increase in share count over the last decade, Realty Income has managed to maintain an upward trajectory for its funds from operations (FFO) per share, a key metric for REITs. Through a combination of strategic acquisitions, organic rent growth, and a prudent investment approach, the company has achieved a remarkable 450% growth in FFO over the past ten years. This growth rate, coupled with the company’s attractive dividend yield, positions Realty Income as an appealing investment option in the real estate sector.
While some skeptics argue that sustaining high growth rates becomes more challenging as a company expands, Realty Income has proven that it can continue its aggressive growth without setbacks. The successful integration of previous major acquisitions, such as the VEREIT deal, reaffirms the company’s ability to execute large-scale transactions and create value. With the pending Spirit Realty acquisition, Realty Income has an opportunity to build on its growth story and deliver even greater shareholder value.
Trading at an Attractive Valuation
In line with the broader real estate investment trust sector, Realty Income Corporation has experienced a significant pullback in its share price this year. Surprisingly, this decline comes at a time when the company is poised to achieve a new record-high for FFO per share. The combination of increased profits and a discounted share price has resulted in a steep contraction of Realty Income’s valuation, with the company currently trading at just 11.3x 2023 estimated FFO.
It’s worth noting that this valuation does not yet reflect the potential boost from the Spirit Realty acquisition or the anticipated organic growth in the coming quarters. According to projections, Realty Income’s FFO multiple for 2024 could be as low as 10.6, equivalent to an FFO yield of 9.4%. While this might be reasonable for lesser-quality REITs, Realty Income’s strong track record, recession resilience, solid balance sheet, Dividend Aristocrat status, and diversified asset footprint make it an attractive investment proposition.
Although it is unlikely that Realty Income will trade at the FFO multiples of 20 it has seen in the past, a range of 12x to 15x FFO in the longer run seems feasible, even in an environment of elevated interest rates. By applying this range to the 2025 consensus FFO estimate and adjusting it for the Spirit Realty deal’s impact, Realty Income’s share price could potentially surge to nearly $60 in the next two years. When combined with an enticing dividend yield of 6.6%, Realty Income emerges as a potentially rewarding investment in the years to come.
While short-term sentiment can impact share prices, Realty Income’s current valuation, combined with its strong growth prospects and attractive starting yield, makes it a highly compelling long-term investment opportunity.
