2 Top-Shelf Dividends, Up To 9% Yield

Total returns are important for many investors, and that’s perfectly understandable. After all, who doesn’t like to see big unrealized gains on their portfolio statement?

However, I would compare having sizable unrealized gains to having a lot of equity built up in one’s primary home or in a rental property that may or may not generate much positive cash flow. In order to realize those gains, one must sell those properties or borrow against them in a cash-out-refinance to realize any of those gains.

That’s why having a balanced approach between capital gains and income may be a better approach, in that higher income results in a faster payback period, thereby de-risking the initial purchase price. For example, if an investment yields 10% for 10 years, then on the 11^th year, the investor is essentially playing with “house” money.

This brings me to the following 2 stocks, both of which generate high yields at their current price and are investment grade credit rated. Both are at the top of their game with respect to their respective industries, with sizable asset bases that should generate solid returns for many years to come, so let’s get started!

#1: Ares Capital – 9% Yield

Ares Capital (ARCC) is the largest business development company by asset size and is managed by global asset manager Ares Management (ARES), which has $419 billion AUM across credit, real estate, and private equity, among others, and 35 offices worldwide.

ARCC benefits from this ‘big brother’ relationship to ARES where it gets valuable management insights, expertise, relationships and deal pipeline. At present, ARCC has an investment portfolio with a $23.1 billion fair value spread across 510 portfolio companies.

ARCC was one of the few BDCs to actually grow in size in 2020 during the pandemic, and this continued over the past 12 months. This includes 9% growth in both portfolio fair value and number of portfolio companies since Q1’23. Management has also made moves to de-risk its portfolio by increasing exposure to first-lien senior secured loans from 41% of the portfolio a year ago to 46% at of Q1’24, results of which were reported on May 1^st, as shown below.

ARCC benefits from having wide portfolio diversification, with Top 15 investments accounting for just 29% of portfolio total, and no investment representing more than 2% of the portfolio beyond the Top 2 investments. Portfolio industries are also weighted towards growth and defensive names, with software, healthcare, business services, and Ivy Hill Asset Management (a related-party investment vehicle that invests primarily in 1^st lien loans) comprising over half (55%) of portfolio value.

ARCC continues to generate above average returns on its debt portfolio due to high interest rates, as 68% of its debt investments are floating rate. This is reflected by the 11.1% weighted average yield on debt during Q1’24, down just 20 bps from 11.3% in the prior year period, and sitting well above the 8-10% range in periods before the Fed began aggressively hiking rates. Also encouraging, ARCC saw NAV per share growth of 1.5% on a sequential QoQ basis to $19.53. NAV per share has grown steadily since reaching a low of $15.56 in 2020, and now sits well above $17.32 at the end of 2019.

Management expects to pursue opportunistic growth this year after making $3.6 billion of new investment commitments in Q1 alone, of which the vast majority (88%) where in the safer first-lien loan segment. This is supported by a strong balance sheet with $6 billion of available liquidity and a debt-to-equity ratio of 0.99x, sitting below 1.07x at the end of 2023, and well under the 2.0x statutory limit for BDCs.

Importantly for income investors ARCC’s 9.2% dividend yield is well-supported by an 81% payout ratio. ARCC also doesn’t appear to be too pricy at present with a Price-to-NAV ratio of 1.07x, sitting more or less in the middle of its 5-year 0.9x to 1.2x range (excluding the early pandemic timeframe in 2020). ARCC carries BBB-/BBB credit ratings from S&P and Fitch.

While I wouldn’t expect to see much dividend growth in the near-term due to a flattening of interest rates, ARCC could still see meaningful growth through portfolio growth should raise equity this year at a premium to net asset value.

Considering ARCC’s NAV/share growth, continued high returns on investment, and stronger balance sheet than before, my ‘Buy’ thesis around this stock remains largely unchanged since the last time I visited the stock in March, when it traded at a 4% premium to net asset value. With a +9% yield well-covered by cash flow, investors are well-paid for holding onto the stock.

#2: VICI Properties – 6% Yield

VICI Properties (VICI) is the largest experiential REIT in the U.S. with a host of iconic gaming properties in Las Vegas and beyond, as well as an emerging portfolio of non-gaming leisure properties. It benefits from having stable long-term leases that range from 30 to 55 years in weighted average lease term among its top 13 tenants.

Moreover, 75% of VICI’s rent roll comes from S&P 500 (SPY) tenants with 81% of rent roll having master lease protection, which means that tenants with multiple properties under lease cannot simply walk away from any single property.

100% of VICI’s leases are also triple net, which means the tenant is responsible for paying property taxes, maintenance, and insurance. This results in a very high operating margin compared to the rest of the REIT sector. This is reflected by a 92.5% op margin (with depreciation addback) over VICI’s trailing 12 months. This compares even more favorably to the 89% TTM op margin of net lease giant Realty Income (O) and sits well above the 65% range for shopping center REITs.

VICI is saw continued strong growth as reflected by its Q1 2024 earnings released on May 1^st. This includes 8.4% YoY revenue growth and importantly, this growth is translating to the bottom line, with AFFO per share growing by 6.1% YoY. Over the trailing 2 years, VICI’s AFFO per share has grown by an impressive 27% from $0.44 in Q1’22 to $0.56 in Q1’24.

Management reaffirmed guidance for $2.24 AFFO per share at the midpoint of range for full-year 2024, representing 4.2% growth from 2023 AFFO per share of $2.15. This represents continued growth from the robust 12% AFFO per share growth that VICI saw in 2023. This is supported by rent escalators and robust investment activity, including $700 million in investment capital subsequent to Q1 to fund extensive reinvestment projects at The Venetian in Las Vegas.

VICI carries a strong balance sheet with a BBB- investment grade credit rating from S&P and $1.2 billion in cash and equivalents plus an additional $2.3 billion of undrawn revolving credit facility capacity. It also carries a safe net debt-to-TTM EBITDA of 5.1x, sitting below the 6.0x mark generally considered to be safe for REITs.

This lends support to VICI’s 5.7% dividend yield, which is well-covered by a 65% payout ratio. VICI has a 5-year dividend CAGR of 7.8%, and this includes the 6.4% dividend raise in Q3 of last year.

I continue to find VICI appealing at the current price of $28.90 with a forward P/FFO of 11.1x, sitting below the 12.5x P/FFO from when I last visited the stock in June of last year, and below its historical P/FFO of 16.2x, as shown below.

I believe a part of VICI’s drop in valuation since my last piece is warranted, considering its lower analyst forward growth expectation in 3-4% range over the next couple of years, given the potential for a higher-for-longer interest rate environment and lower share price, which makes the cost of equity more expensive. However, I believe the long-term potential for VICI remains compelling, especially considering the discounted valuation, quality and stability of the asset base, and forward growth and development potential. As such, I maintain a ‘Buy’ rating on the stock.

Risks to Consider

• ARCC is externally managed, which may lead to conflicts of interest since its ARES Management derives a part of its compensation from ARCC’s asset size. Also, ARCC carries a non-accrual rate of 1.7% (percentage of total investments not current on payments) as of the last reported quarter, sitting slightly below its historical average of 1.5%. As such, this ratio is worth monitoring.
• VICI Properties is subject to interest rate risk as a BBB- credit rating means that it gets higher rates on debt refinancing compared to if its credit rating were higher. In addition, VICI’s lower share price today means that its cost of equity is higher and thereby makes it more expensive to fund new acquisitions and/or developments. Macroeconomic risk could also pose risks to operators at its gaming and leisure destinations.

Investor Takeaway

I hope you enjoyed this piece about 2 ‘Top Shelf’ stocks that hold plenty of stature in their respective industries. Both Ares Capital and VICI Properties offer attractive valuations, growth potential, and high income to boot. I believe ARCC’s strong investment activity and diversification bode well for its future, while VICI benefits from having iconic properties leased to top tenants with long-term leases. As such, I view both as being attractive ‘Buys’ for those seeking high-quality income.