Recent Buy

buyThe market continues to march higher, much to the chagrin of us dividend growth investors focused on value. I do my best to keep abreast of value wherever it can be found, and my watch list for this month is mostly filled with equity positions I already own that are currently trading for prices below what I paid. Averaging down on a position requires conviction in your decision making process, and thus it’s important to be confident in a company’s long-term fundamentals and prospects.

As part of my Recent Buy series, I try to let my readers know of any equities I purchase soon after the transaction is completed. This is just one way I try to document my progress toward early retirement and financial independence.

I purchased 20 shares of Digital Realty Trust, Inc. (DLR) on 8/1/13 for $54.75 per share.

I initiated a position in this real estate investment trust (REIT) back in June and it has since traded down on weakness amid a large short float (investors shorting the stock) and an inconsequential accounting change. Shares are down well over 7% since I first invested in this company, so I wanted to review my investment thesis and see if there was an opportunity to take advantage of Mr. Market’s irrationality or if there was a real problem with the company. This stock is down approximately 20% YTD, while the S&P 500 is up approximately 20% YTD. That’s a 40% spread, so this is quite an interesting stock right now. Obviously, DLR took a hit with the rest of the REITs when interest rates shot up on the back of the possibility of reduced QE, but there is a lot more to the story than that.

The company has a track record of operational excellence since going public in 2004, handily trouncing the S&P 500 during that time frame. But, as always, past results are no guarantee of future performance.

As I discussed previously, this company is under attack by Jonathan Jacobson of Highfields Capital Management LP. He has stated that incorrect reporting of CAPEX and a lack of an economic moat resulting in increased competition means this company’s shares are worth about $20. Quite dramatic, but if you’re  interested in shorting a stock it’s in your best interest to scare investors and sell their shares so that you can profit. It’s working out nicely so far.

The claims on underreporting of CAPEX have been doggedly refuted by management, but DLR did make a change to how they account for CAPEX which seems to have scared some investors on the premise that Jacobson and the shorts are right and this company is in trouble. From the research I’ve conducted, the change was actually quite inconsequential and amounted to an adjustment of about $3.4 million to AFFO for the second quarter. The second quarter was otherwise quite strong with an 11.2% increase in FFO over 2Q 2012 and the acquisition of two properties totaling nearly 354,00 square feet. The business just keeps chugging along even as the price continues to dive.

As far as the strength of the business, it’s true that DLR might lack a strong moat because there isn’t really anything to keep competitors from trying to open data centers of their own. However, I don’t see how this is a zero sum game and this fact has been true for the last nine years that DLR has been a public entity. There are some that have the opinion that server farms might go the way of the dinosaur as servers become smaller and cloud computing somehow steals demand from DLR. Again, I just don’t agree with this. Cloud computing wasn’t something that started yesterday, and DLR has done quite well as technology and computing has changed over the last decade. In addition, I can’t imagine how the need for data, computing and storage doesn’t increase over time. Much in the same way that demand for consumer products will likely increase over time as the global population increases and middle class consumers rise up in emerging countries, these same consumers will demand companies to increase their usage of data and information. And then, of course, you have the increasing usage of smartphones and tablets which also require more and more data. DLR appears to be well positioned to take advantage of any growth that happens with these trends due to being located in key markets across the globe.

The risk/reward profile of this REIT is a bit more aggressive than most of the other companies I’ve invested in, and the price may continue to go down from here. But this trust represents a little less than 2% of my portfolio, so I’m okay with the risks involved. And those risks are being amply rewarded. The entry yield on my purchase price on this security is 5.7%, which is obviously very attractive in the current environment. And with my purchase being just above the 52-week low in a market that continues to set record all-time highs, I feel comfortable. The main issue with this REIT, in my opinion, is that they are so closely tied to tech and the rapidly changing nature inherent in such. But as I pointed out above, they’ve navigated their business very well thus far.

DLR is currently trading with a P/FFO of about 12 right now. This REIT has a compound annual FFO growth rate of 18.7% since they went public and the dividend has a CAGR of 15.3% since 2005. The most recent dividend raise was 6.8%, which may be a good indication of the growth going forward. I valued shares when I first initiated my position a couple of months back, and I came up with a Fair Value of just over $65 per share using a Dividend Discount Model with a 10% discount rate and a 5% long-term growth rate. If that number is reasonable (which I believe it to be), then a comfortable margin of safety exists at today’s price.

I’m now done buying shares in DLR, as this represents a full allocation to this company for me right now. Again, shares may continue to go down due to the large percentage of the float that’s being shorted, but that isn’t what concerns me. What does concern me is the quantitative fundamentals of the company and whether they’re able to continue to grow at a robust rate while rewarding shareholders through a growing dividend. And I feel they will be able to do so. When a business has a falling share price that is backed by crumbling fundamentals that would be a good time to sell. But when a business has a falling share price with otherwise solid fundamentals and growth, I look to purchase. Investors appear to be fearful with DLR, so I will be greedy.

This purchase adds $62.40 to my annual dividend income based on the current $0.78 quarterly dividend.

I’m currently invested in 37 companies, as this was an addition to a company I already have an ownership stake in.

I usually like to include analyst valuation opinions on my purchases, but neither Morningstar nor S&P Capital IQ track this stock.

I’ll update my Freedom Fund in early September to reflect my recent addition.

Full Disclosure: Long DLR

How about you? Believe in the long-term story of DLR or are you selling?

Thanks for reading.

Photo Credit: Stuart Miles/FreeDigitalPhotos.net

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38 Comments

  1. Grats on cost-averaging down on your shares, I love that strategy. The average investor freaks out when stocks tumble and decide dump the headache. Through discipline~ others take advantage add more!

    One thing though, on google finance DLR is showing to be 101% institutionally owned ? haha, I just got off work and am probably just seeing stuff. Cheers.

  2. Nice pick up. We’ll see what’s on sale at the end of next week when I get some more capital. Right now, I’m eyeing, O, DLR, KMI, COP, BP, and CVX. All companies that I already own, but there’s still not a lot of value out there.

  3. That is an awesome yield. Is that the highest yielder you’ve ever bought?

    I recently purchased 100 shares of OHI (Omega Healthcare Investors), which is a great value right now and yielding over 6%. Other REITS I like are PSA (Public Storage), SPG (Simon Property Group), HCN (Healthcare REIT) and O (Realty Income). DLR has been on my watch list for a while now, I want to see how the stock price shakes out over the coming months, it is about 31% off its 52-week high right now.

  4. funny, we initially bought DLR the same day and we also added the same day. I sold a put on DLR when shares were trading around 54.75. I sold the January 18 2014 55 strike put on DLR for $5. I figured I would like to buy DLR in january for 50 a share, or collect my $500 bucks should DLR stay above 55, either way a win win.

  5. Nice buy. DLR is certainly worth looking into and it’s great that you could average down. However, I just added to my only REIT, OHI, after the recent weakness. Due to owning real estate I will probably keep my REIT exposure very limited.

  6. 1 statement 1 question 1 compliment, I had started investing earlier this year before my serperation from the military on my 26th birthday. “unfortunately I did not learn of dividend growth investing, saving money, investing, or planning for the future – until my last year on active duty, wow where I could have been right now if I had started at year ONE.” My question is in concern of qualified and non-qualified dividends. Do you have some tips and references on keeping track of my tax requirements when I am holding both asset classes in my portfolio?

    I greatly appreciate your feedback and your site inspires me every single day to keep saving aggressively, enjoying a life of freedom, and to keep working towards a day when I can focus my entire attention to more important matters than ‘just getting by’

  7. The concept of building a dividend portfolio over time is sound, but I would like to point out that you seem to be ignoring price to book value and long term debt in your analysis. Your recent purchase of Digital Realty Trust seems to be outside the limits of sound valuation even though the dividend return is quite attractive.

  8. Great pickup on the dip, although personally I would stay away until the accounting issues are resolved (see Linn Energy). Or, tweak your model to account for the inherent risk the stock seems to carry at this point (at a discount of 12% you’re looking at $47 which seems more reasonable). That being said, your upside is obviously big and if you already have significant coverage to REITs, not a bad ‘spec’ play at all. I look forward to following your blog to see how it all shakes out.

  9. Dividend Mantra,

    Seems to be a great buy based on the amount of research you have done and our strong belief in the company prospects. The dividend historically seems to be rising and payout ratio is not big at all according to last I checked on their website.

    I have several small positions in the REIT space my newest one being took a very small position in COLE not much to move the needle, but they just started trading and they announced record results and a 11% divvy increase 🙂

  10. Investing Early,

    Averaging down can be a very sound strategy if the fundamentals remain strong. If the company is crumbling, averaging down will likely only amount to throwing good money after bad and result in potentially substantial losses. After reviewing the company, I think the fundamentals remain strong.

    I noticed that institutional ownership % too. I honestly don’t know what to think about that, although I will say that I don’t really track that metric. It can give you an idea of volatility, but at the same time if big money starts to sell you can be sure that you’ll be hurting.

    Best wishes!

  11. MFIJ,

    Thanks for stopping by.

    Nice list there. I’d say I’m watching all of them as well. BP is a little tricky, but there could be a lot of value there.

    Best of luck. Happy shopping!

    Take care.

  12. Scoonie,

    Thanks! It’s not actually the highest yielding security I’ve ever purchased. Telefonica S.A. (TEF) has that dubious distinction. I was lucky to sell just a few days before the dividend was cut a while back.

    Nice buy on OHI. That’s one of the other REITs I follow. It seems like a high quality company that should see stable growth over the long haul due to the focus on health care.

    Best wishes!

  13. BidAskDividends,

    I actually don’t think there are any accounting issues to be resolved. From what I can tell they made a minor change to CAPEX reporting, and that affected AFFO by a small amount for 2Q 2013. That change will be seen going forward. Management has not indicated any further changes.

    I think the margin of safety here is at least 10%, and perhaps much more than that. That margin is probably warranted with the large percentage of shorted shares. Again, the risk/reward profile is a bit more aggressive than most of my other holdings, but at less than 2% of the portfolio I think I’m okay here. I won’t be buying any more shares, however.

    I guess we’ll see how it turns out. 🙂

    Best regards!

  14. Took2Summit,

    Wow. I guess I’m in good company. 🙂

    It sounds like you have a great situation on your hands with the options play. Either you profit and don’t get assigned, or you buy shares for about 10% less than they trade for today. Sounds like you’ll do well either way!

    Take care!

  15. AAI,

    We’re in a different situation as the two REITs I have an ownership stake in (O, DLR) are the only direct real estate exposure I have. You have fairly substantial real estate holdings, so I can definitely understand your desire to limit further REIT purchases. I’d be doing the same thing.

    Thanks for stopping by!

    Best regards.

  16. SWAN,

    Thanks!

    Well, REITs are required to pay out at least 90% of their taxable income, which is why you see such high yields here. DLR has a very sustainable payout.

    I haven’t looked at COLE before. I’ll have to take a peek! 🙂

    Best wishes!

  17. Matthew,

    Glad you enjoy the blog and I’m really happy you find some inspiration here! 🙂

    The best advice I can give you in regards to keeping track of dividends (qualified and non-qualified) is to keep things simple. I, for instance, mostly invest in normal C-corps which pay out qualified dividends. I do this because when I’m financially independent I know that I’ll have very little tax liabilities. I like the REITs here (even though the dividends are non-qualified) because of the valuation and the higher yield that can boost my overall portfolio income. Investing in a lot of complex investment instruments will likely complicate your taxes and your life. The more complex the more unnecessary, in my opinion.

    Stay in touch!

    Best regards.

  18. Anonymous,

    I don’t ignore P/B or debt ratios, but rather this post was not an analysis of DLR. It was simply designed to point out when I purchased, what price I paid, and why I did so.

    The debt/equity ratio of DLR at about 1.6 is reasonable, especially for a REIT as this structure requires certain leverage levels to fund acquisitions. The P/B at 2.4 currently is well under DLR’s 5-year average.

    I wasn’t ignoring anything, but rather the metrics look great and I was only pointing out some of them.

    For a recent detailed analysis on DLR, see here:

    http://dividendmonk.com/digital-realty-trust-dlr-trap-or-value/

    Best wishes.

  19. Nice purchase and good example of averaging down. I have been looking at REITs lately for the same reason as you — they’ve underperformed the market YTD on fears about a reduction in QE. Several REITs are now trading at reasonable P/FFO ratios and they’ve become attractively valued relative to stocks in other sectors. I currently don’t own any REITs, so one or two would help diversify my portfolio and give me some exposure to real estate.

  20. How accurate is institutional ownership % on google finance. I doubt it is real time. It is likely taken from reports the companies put out every months.

    If you use the MACD technical indicator that might help get a better idea for people. If it moves a lot in the negative direction then it is likely institutional ownership selling huge amounts of shares. The average individual will not after the stock price a whole lot as they don’t own many shares.

    The MACD can help you get a better entry point sometimes.

  21. SWAN,

    I do read Brad Thomas’s articles. I read a lot of articles on Seeking Alpha, among other sites. I think he puts together some pretty solid stuff on REITs. He’s been sometimes criticized for painting overly rosy pictures of some REITs, perhaps unfairly. All in all, I think the information he presents is pretty solid.

    Best wishes!

  22. I’m scooping up some shares of DLR tomorrow. Isn’t it great to celebrate great buying opportunities like these? There’s some people freaking out right now, I’m sure, but not this community!

  23. REIT’s have done very well for awhile for dividend investors and I love their yields and they have to payout 90% back as do BDC’s and MLP’s. One of my favorite authors on REIT’s is Brad Thomas who writes for Seeking Alpha, Forbes, and TheStreet.com. Seems to have a lot of experience in real estate and puts out several good articles on the subject.

    Anyone else read his articles?

  24. Hey DM,

    Curious what you’re thinking about Intel since they didn’t do their annual dividend raise?

    Personally my bet is that they will get back on track towards next year as their newer mobile processors come around and everyone not named Apple starts to pump out Intel Inside smartphones… it is disappointing though in terms of them tipping their hand as far as how they feel about their shareholders.

  25. the best line in your writing this time was the line that said this increased my income by $62.40 after you boil all the water off that is what counts

  26. DM, were you able to take a look at the Chinese internet stocks when you stopped by? They are up 35-65% since and I just wrote a post about knowing when to sell growth stocks. Any consideration of ever buying growth stocks instead? I’d love to get your thoughts on my post.

    It’s great that you are raising your income by $62.40, but does it move the needle in terms of your early retirement plans? It’s important to build a large enough financial nut to spit out enough livable income. But that obviously takes more risk.

    Best, Sam

  27. DGM,

    You summed up my thoughts on REITs perfectly. You’ll notice that I have been staying away from them for the last three years, especially lately as they ran up quite aggressively. But after the recent underperformance I became quite interested, hence the recent purchases of O and DLR.

    I agree with you that couple REITs would help give you exposure to real estate and also perhaps offer an opportunity to buy reasonably priced assets. Like you, I don’t own any physical real estate so this works for now.

    Best wishes!

  28. Spoonman,

    I’m with you. When Mr. Market is depressed and willing to sell some shares at a discount I’m very, very pleased. Certainly there is some risk here with DLR, but I feel it’s been blown out of proportion and I’m okay buying on the dip.

    Take care!

  29. cv26,

    Thanks for stopping by.

    I’m watching INTC very closely. While slightly disappointed with the lack of a raise I’m hoping that we see one later this year or early in 2014. What I’m much more concerned about than a dividend raise, or lack of one, is how much traction the new chips get later this year. If the new products don’t make the kind of waves that INTC needs after massive CAPEX then I’ll probably invest elsewhere.

    Best of luck!

    Take care.

  30. Anonymous,

    Haha! I’m glad you liked that.

    In the end, that’s what matters the most. It’s all about purchasing high quality assets at attractive values and plowing the passive income those assets generate right back into more high quality assets. It’s a really wonderful cycle. The rest is all psychological.

    Best wishes!

  31. Sam,

    Thanks for coming by!

    I never did take a look at those Chinese stocks. And that’s really only because I have limited time, and I have to allocate that properly towards the research of companies I’d actually be interested in investing in. I already know that Chinese internet stocks are just not for me based on the risks involved, so to spend time actually looking at them would be fruitless. If I had a lot more time I would probably take look, if just for fun.

    I do think that the $62.40 moves the needle. It moves it slowly, but those little moves add up over time. I anticipate receiving somewhere around $18,000 in dividends by the time I’m 40, and that $18,000 is filled with $62 here and $50 there and the like. And the best thing is that since dividends have tax advantages built in and I’ll have a very limited tax bill. Receiving $18,000 almost tax free would be like having a full-time job and making around $28,000 after factoring in FICA, federal taxes, state taxes and work related expenses. And $28,000 is right about the per capita U.S. income for 2011.

    Best wishes!

  32. George,

    Nice move! Someone above was commenting about the same thing. Sounds like a reasonable win-win, the only thing you’d miss out on is a big move up if there was one. But you’ll still profit on the options if you’re not assigned shares anyway.

    Best of luck!!

    Take care.

  33. 12 P/FFO is rather strong. It appears you were able to pick up shares at value prices. To be honest, I haven’t looked at DLR in great detail. They own buildings that house data centers/computing equipment in a controlled environment right? My main reservation is what happens if a tenant goes out of business, switches to someone else, decides to do it on their own, or just moves the operation elsewhere. It sounds tough to retool the building into something else. Again you know more DLR’s model than I do. It seems tenant’s exit barrier would be high, but I don’t know how long the average contract is.

    Seriously can’t argue with the nice yield and value. I bet the whole segment is growing rapidly too. I scooped up some Realty Income shares today, but think I own enough REITs for now unless prices trend lower.

  34. CI,

    I think the value here is pretty strong. Especially in a market that is modestly overvalued.

    You are right. The data centers they own are pretty specific to the use of servers and electronics that generate a lot of heat and require a lot of exhaust. I suppose they could be re-tooled if necessary (if the business model went kaput), but I really don’t think that’s going to happen in the foreseeable future. If I thought that was a possibility I wouldn’t have invested.

    As far as lease terms go, I believe the average original lease is around 13-14 years. I can’t pull it up right now, but I’m fairly certain of that.

    Nice choice with O. That’s the other REIT I own and I’d be willing to pick up additional shares around the $40 level or so. That would allow me to average down nicely. O is a nice long-term cash cow. And who doesn’t like to milk a cow like that? 🙂

    I don’t know what your allocation is, but I’m okay with a 5% allocation to REITs over the long haul. I might scale this up a little, but not much.

    Best wishes!

  35. Martin,

    Thanks for the support! I think it’s very attractively valued here if they can grow at even half the rate they have in the past.

    Sounds like you have a nice watch list there. Not a ton of value out there, but one can find selective targets with enough research.

    Best of luck!

    Take care.

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