Omega Healthcare Investors Provides an Incredibly Stable 6.7% Yield

Founded in 1992, Omega Healthcare Investors (NYSE: OHI) manages a $1.3 billion portfolio of over 200 hospitals and nursing homes in diverse locations across 28 states. The company leases the properties to established healthcare operators like Sun Healthcare (Nasdaq: SUNH), CommuniCare Health Services, and Advocat (Nasdaq: AVCA).

Under sales/leaseback agreements with these tenants, Omega purchases their properties, then leases them back under long-term contracts. It finances the purchases with a revolving loan or by raising money through issuing debt or equity. The company also holds fixed-rate mortgages on several of its facilities.

Dividend: Management recently announced its 14th quarterly dividend increase in the last 18 quarters. The quarterly dividend has doubled from $0.15 a share in 2003 to a current $0.30 a share. That gives the stock a projected annual payout of $1.20 per share, equating to a yield of 6.5% at the current share price.

As a real estate investment trust, Omega doesn't pay income taxes, but instead passes along at least 90% of taxable earnings to shareholders. About 70% of the 2007 dividend was taxable as ordinary income, up to 35%. The balance was a non-taxable return of capital, by which the company passed along cash flow that's not part of reported earnings. Given the large component of the dividend taxable at the full income tax rate, the shares are best held in a tax-deferred account.

Omega has a dividend reinvestment plan that allows you to take the payments as shares of the company instead of a cash payout, but the dividends must still be reported as taxable income. You can phone Omega's investor relations at 1-866-996-6342.

Performance: OHI's earnings have grown a robust +72% a year on average over the past three years. Omega secures this rising income stream for shareholders through long-term triple-net leases and fixed-rate mortgages with built-in rent increases.

In a triple-net lease, the tenant pays a monthly base rent and is responsible for all costs associated with the property, including property taxes and insurance, operating expenses, utilities, and janitorial services. For additional security, Omega requires substantial deposits from tenants and places covenants on them to help protect Omega's interests.

These measures help alleviate risk factors associated with the financial health of Omega's tenants. For example, Haven Eldercare, a major tenant that operates about 9% of Omega's properties and owes Omega $62 million in mortgage debt, declared bankruptcy last November.

When the company is sold in a deal expected to be completed over the coming weeks, Omega will be able to exercise a built-in purchase option on the mortgages and recover its debt by acquiring the facilities.

Outlook: In addition to built-in rent increases, acquisitions are a major growth driver for the company. Omega has invested $134 million so far this year, including a $123 million facility purchase and mortgage deal.

In this complex transaction, Omega purchased nine facilities that will be operated by CommuniCare. The deal also calls for an additional $4.7 million annual rent increase in CommuniCare's lease and an extension of that lease to 2018, with two more ten-year renewal options. The deal was funded through a combination of debt and equity and leaves the company in a healthy financial position for future acquisitions, with debt at about 50% of total capitalization.

CommuniCare now accounts for a heavy concentration of over 20% of Omega's tenants, creating a potential risk factor. Altogether, however, management calculates this investment will return +10.5% in the first year.

On the heels of this transaction, the company also upped its 2008 earnings forecast. Management now sees funds from operations of $1.49-$1.55 per share from an earlier estimate of $1.41-$1.43. That latest estimate represents a healthy +5-9% growth from last year's $1.42 per share, thanks largely to new investments completed during the year.

OHI offers an attractive mix of relatively low-risk income along with dividend growth and capital gains potential.

Disclosure: none