Vornado Realty (VNO) Dividend Suspended

Vornado Realty Trust (VNO) suspended its dividend because of difficult business conditions.

The real estate investment trust (REIT) has paid a fluctuating dividend based on taxable income. The REIT’s policy was to pay 100% of taxable income. But the effect of the COVID-19 pandemic and rapidly rising interest rates have pressured earnings. As a result, investors have sold the stock causing the share price to decline to levels last seen almost two decades ago. Simultaneously, the dividend yield increased to over 10%, a level associated with risk to the dividend. Uncertainty in the business and economy resulted in a dividend cut in early-2023, followed by the suspension.

Overview of Vornado Realty Trust (VNO)

Vornado Realty Trust was founded in 1946, after World War II, as New York City’s commercial office market grew rapidly. The firm evolved into one of NYC’s dominant office and retail real estate owners. The Trust also owns some residential properties and nearly one-third of Alexander’s (ALX). Outside of NYC, Vornado owns the former Bank of America Tower, two other properties in San Francisco, and the Merchandise Mart in Chicago. In total, the firm owns or manages almost 20 million square feet of office space in Manhattan and another six million square feet outside of NYC. Steven Roth leads Vornado.

Total revenue was $1,607.69 million in 2022 and the past twelve months.

Dividend Cut Announcement

Vornado cut its quarterly dividend by 29.2% on January 18, 2023. The company’s quarterly dividend was $0.53 per share. The dividend rate was changed to $0.375 per share. Specifically, the press release said,

“Vornado Realty Trust announced today that its Board of Trustees has declared a reduced quarterly dividend of $.375 per share. The decrease is in recognition of the current state of the economy and capital markets and is reflective of Vornado’s reduced projected 2023 taxable income, primarily due to higher interest expense.”

Notably, this dividend reduction was the second after the payout was lowered on July 30, 2023, during the COVID-19 pandemic.

Dividend Suspension Announcement

The REIT followed the dividend cut with a dividend suspension a few months later. On April 26, 2023, Vornado announced,

“Vornado Realty Trust (NYSE:VNO) announced today that it will postpone dividends on its common shares until the end of 2023, at which time, upon finalization of its 2023 taxable income, including the impact of asset sales, it will pay the 2023 dividend in either (i) cash, or (ii) a combination of cash and securities, as determined by its Board of Trustees.”

“Vornado also announced that, in order to enhance shareholder value, its Board of Trustees has authorized the repurchase of up to $200 million of its outstanding common shares under a newly established share repurchase program. Cash retained from dividends or from asset sales will be used to reduce debt and/or fund share repurchases.”

The Trust is likely facing an uncertain 2023, but interestingly they are using the cash flow to lower debt and buy back shares. Most companies only use the money saved after a dividend cut to reduce debt.

Challenges

The COVID-19 pandemic caused significant challenges for the commercial real estate market and property owners. Subsequently, rapidly rising interest rates have added to the difficulties.

COVID-19 Pandemic and Aftermath

COVID-19 caused revenue to fall precipitously for commercial office and retail space owners. In the case of Vornado, rental income declined from $1,767.2 million to $1,377.6 million in 2020 and $1,424.5 million in 2021. However, 2022 was better, with rental sales climbing to $1,697.7 million.

However, the main challenge is the changing work model. The pandemic resulted in many NYC office employees working from home. Eventually, they transitioned to a hybrid work arrangement. But companies realized they needed less space and thus downsized.

Furthermore, fewer workers in offices meant less people shopping at retail stores. Also, many customers transitioned to online purchases. Consequently, many stores closed and went out of business during the pandemic.

The business disruption resulted in lower rental income and less cash flow for distributions.

Currently, more workers are in the office. As a result, the number of people shopping and visiting has risen and store opening are climbing. But the bottom line is the pandemic changed the way people work and shop.

Rising Interest Rates

The second primary challenge for Vornado is rising interest rates. Because of its corporate structure, the REIT must pay out 90% of its taxable income as dividends. Hence, they use debt for funding growth. But rising rates are causing interest expenses to increase in parallel. For instance, interest expense was about $51 million in the third quarter of 2021 but increased to approximately $86 million in the first quarter of 2023. Moreover, rates are even higher now, suggesting greater costs for the rest of 2023.

Thus, investors should not be surprised Vornado delayed its dividend until later this year. However, the point to remember is the firm did not omit the dividend for 2023 but will pay one at the end of the year depending on taxable income.

Dividend Safety

Because of the dividend was suspended, Vornado’s (VNO) payout and dividend-to-FCF ratio are meaningless metrics.

Vornado’s dividend safety has declined because of the state of the commercial real estate market. Office occupancies are lower than before the pandemic, although they have recovered from the bottom. Despite a recovery in jobs and lower unemployment in NYC, office occupancy has plateaued at between 40% and 50%, while office vacancy reached 16.1%. Hence, firms like Vornado have written down the value of their real estate portfolios because rental rates are falling.

That said, the trouble in the commercial real estate market is not limited to NYC. Recently Charlie Munger was quoted about future problems.

“It’s not nearly as bad as it was in 2008,” he told the Financial Times. “But trouble happens to banking just like trouble happens everywhere else. In the good times you get into bad habits. When bad times come, they lose too much.”

Currently, the company receives a dividend safety score of ‘F.’ After the suspension, the score has remained an ‘F.’ We anticipate the dividend safety will remain low in 2023 unless office occupancy in NYC increases or interest rates start declining. 

In addition, Vornado has increased debt on the balance sheet by nearly $2 billion since 2019. Much of this debt is long-term but will be refinanced at higher rates, pressuring the dividend. But the credit rating agencies give the firm a BBB-/Baa3 lower-medium investment grade credit rating.

Final Thoughts on Vornado Realty (VNO) Dividend Suspended

The REIT’s challenges were caused by the COVID-19 pandemic and, subsequently, the U. S. Federal Reserve increasing interest rates. The combination has pressured Vornado’s ability to pay a dividend. That said, Vornado’s rental income has recovered, but higher debt and interest expenses will limit dividend distributions.

Vornado (VNO) obviously needed to suspend the dividend considering the state of the commercial real estate market. Hence, Vornado will probably pay a much lower dividend in 2023 than in 2022. Investors have realized the firm is struggling and have been selling the stock. The sentiment around the firm is strongly negative, which will probably not change in the foreseeable future.

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