Kilroy Realty's (KRC -2.10%) dividend is the highest it has been in more than a decade. Is Wall Street sending out a warning sign that the risk of a dividend cut is high, or is the baby getting thrown out with the bathwater? Here's a quick look at Kilroy's dividend and dividend yield to help figure out the answer.
How high?
The average real estate investment trust (REIT), using Vanguard Real Estate Index ETF as a proxy, is yielding around 3.5%. An S&P 500 index ETF offers a tiny 1.5% yield. Kilroy's dividend yield is roughly 5.5% today. That is, as noted above, the highest this REIT's yield has been in more than a decade. Something is going on.
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The big story, which is likely what has captured Wall Street's attention, is that Kilroy predominantly owns office buildings. When the COVID-19 pandemic hit in 2020, people were asked to work from home as a way to promote social distancing efforts. Although the world is learning how to deal with the coronavirus, employees seem to have grown fond of not going into the office. And thus, offices are not full, even though some employers would like to see less work from home and more work from work.
Adding to the problem is that Kilroy's big focus has historically been on key technology hubs on the West Coast. Although it has expanded its reach into Texas, the move was largely made to follow the technology sector's shift toward that up-and-coming state. Technology company employees are among the most adamant about working from home, with some companies happily going along and becoming 100% remote.
Put the office trends together with Kilroy's focus on technology havens, and you can see why investors might be worried about the future of the business. And that, in turn, suggests there could be concerns about the dividend. So far, there doesn't appear to be anything to worry about.
Solid as a rock
Clearly, Kilroy is dealing with a changing business environment. Investors should be monitoring how well the company is adjusting. However, a focus on the highest quality offices (often referred to as Class A) means that this REIT's properties are generally in high demand. In fact, when times are tough, companies often look to opportunistically trade up to better quality space. At the end of the third quarter, Kilroy's leased occupancy was 92.6%. That's down from 93.9% at the same point in 2021 and 97% before the pandemic.
Meanwhile, the company's funds from operations (FFO) in Q3 totaled $1.17 per share. That was up 20% year over year. This is not a company that is falling into ruin despite the difficult backdrop. What's most interesting about the FFO figure, though, is its relationship to the dividend, which is $0.54 per share. That means the FFO payout ratio is a very strong 46%.
Companies with payout ratios that low generally don't end up cutting their dividends. In fact, Kilroy actually increased the dividend in the latest quarter despite the concerns about office demand. While it's true that peers SL Green (SLG -2.69%) and Vornado (VNO -2.02%) have both either cut their dividends or basically announced that a cut was on the way, Kilroy simply isn't following along that path. Investors should probably see the dividend increase as a statement that management is confident about its future dividend-paying ability.
Highly focused, but successful
If you believe in owning diversified REITs, Kilroy probably isn't a good fit for your portfolio because of its heavy regional and industry focus. But, at the same time, the company's focused business plan appears to be holding up much better than those of some of its office landlord peers. The drop in the stock on office market concerns, which has pushed the dividend materially higher, could be a buying opportunity for more adventurous, income-focused investors.
