Global Net Lease: 8.4% Yielding Preferred Shares Offer The Best Risk/Reward Ratio (GNL)

Overhead view of warehouse worker moving pallet of goods with forklift in warehouse

Thomas Barwick

Introduction

Global Net Lease (NYSE:NYSE:GNL) doesn’t enjoy the best reputation here on Seeking Alpha as the REIT liked to print new shares to grow its portfolio. As Philip Eric Jones commented in his recent article, he considers GNL to be a potential yield trap. However, I do think the preferred shares of this REIT are worth a look, mainly because of the additional layers of security as preferred shares rank senior to the common shares while the preferred dividends are cumulative in nature as well.

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Data by YCharts

A quick look at the FFO and AFFO performance of GNL

It goes without saying the income statement of a REIT is not very important as the main metrics to value a REIT on are the FFO and AFFO. This means we shouldn’t care too much about the $5.85M net loss recorded by the REIT in the second quarter of the year. The most important knowledge we gain from looking at the income statement is the fact that the preferred shares are costing the REIT just over $5.1M per quarter.

Income Statement

GNL Investor Relations

As mentioned, the FFO and AFFO are much more important, and the image below shows how the net loss of $5.85M was the starting point for the FFO and AFFO calculation. After adding back the depreciation and impairment charges, the NAREIT FFO was $49.5M, and after adding back two additional small elements, the core FFO attributable to the common shareholders was just under $50M.

FFO Calculation

GNL Investor Relations

And as you can see above, the AFFO was approximately 10% lower than the FFO, coming in at approximately $45M. That’s in line with the result in the first quarter which means GNL recorded an AFFO of just under $89.4M in the first semester of this year.

That’s important to know as the starting point of the FFO and AFFO calculation was the net loss attributable to the common shareholders. This means that this already includes the $10.2M in preferred dividends paid during the year. This also means the AFFO before taking the preferred dividends into account was approximately $100M and the direct consequence is that GNL only needs about 10% of its gross AFFO to cover the preferred dividends. A preferred dividend coverage ratio of approximately 1,000% obviously is a good result.

Asset Breakdown

GNL Investor Relations

The preferred shares are more interesting thanks to the additional layers of safety

Global Net Lease has two types of preferred shares outstanding: NYSE:NYSE:GNL.PA and NYSE:NYSE:GNL.PB. The latter has a preferred dividend of 6.875% based on the $25 principal value per preferred share while the A-series of the preferred shares offer a 7.25% dividend yield. Surprisingly, the A-shares closed on Friday at $21.58 while the B-shares closed at $22.20.

Both share are cumulative in nature and are fixed-yield preferred shares (the preferred dividend rate will not be reset) so in theory the A-shares should be trading approximately 5-6% higher than the B shares to have the same current yield. This is not the case and the fact that the A-shares are trading below the B-shares appears to be a quirk of the market as there is no reason for this. Using the share price as of Friday’s closing bell, the A-shares are currently offering a yield of approximately 8.4%.

That’s great, especially since we have already established the REIT only needs about 10% of its normalized AFFO to cover the preferred dividend payments. But I obviously also wanted to make sure the balance sheet is strong enough.

Looking at the balance sheet situation as of the end of June, Global Net Lease had just over $4B in assets with just over $2.5B in liabilities. After taking the $117M in cash and restricted cash into account, the net debt is approximately $2.3B which represents approximately 62% of the book value of the assets.

Balance Sheet: assets and Liabilities

GNL Investor Relations

That being said, the book value of GNL’s assets already includes an accumulated depreciation of $829M, and if we would compare the debt with the acquisition value of the assets, the LTV ratio is a more acceptable 50%. That’s still not exceptionally low, but it’s not bad either.

In any case, the balance sheet also contains $1.52B in equity, and considering there are 11.5M preferred shares outstanding, approximately $288M of the equity is represented by these preferred shares. This also means that there’s roughly $1.2B in tangible equity ranked junior to the preferred shares.

FFO and AFFO evolution

GNL Investor Relations

Investment thesis

While the preferred dividends are very handsomely covered by both the FFO and AFFO, and while the asset coverage ratio is pretty strong as well, I wish GNL would have a lower payout ratio on its common shares as that would enable the company to retain more cash on the balance sheet to make it safer. GNL is currently paying a quarterly dividend of $0.40 per unit, and although that is still fully covered by the $0.43 in AFFO per share, this also means Global Net Lease is retaining just over $3M in earnings per quarter.

I currently have a small long position in the A-series of the preferred shares and I will likely continue to add to this position. Depending on how the share prices evolve, I may also buy some of the B-series, but I have no intention to initiate a long position in the common shares of GNL.

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