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Tanger Inc(SKT-N)
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Why Is Tanger Factory Outlet's Dividend Yield So High?

Motley Fool - Wed Jan 18, 2023

The real estate investment trust (REIT) sector was battered in 2022 as the Federal Reserve increased the prime lending rate in an effort to get outsized inflation back under control. REITs tend to utilize a lot of debt as part of their business model, so rising rates generally don't help these businesses.

REITs often attract investors based on their dividend yields, and rising rates can cause a revaluation of the REIT as well. Probably the biggest dark cloud over the sector (especially the retail-focused REITs) is the specter of a potential recession in 2023.

Do worries about a recession explain Tanger Factory Outlet Centers' (NYSE: SKT) elevated dividend yield?

Picture of an outlet mall.

Image source: Getty Images.

Tanger is the leader in the outlet mall space

Tanger operates 30 outlet centers around the country with 11.5 million square feet of retail space. These outlets contain over 2,200 stores representing about 500 different brands. The outlet mall concept is based on established retailers selling goods at a discount to what a buyer would pay in a department store or specialty store. The discount is driven by eliminating the middleman, and the lower costs of operating stores in an outlet center.

With the United States possibly entering a recession in 2023, investors are somewhat skittish about retailers, especially retailers in the consumer discretionary space. Outlet malls like Tanger and shopping malls like Simon Property Group(NYSE: SPG) are more on the discretionary side than grocery-store-anchored REITs like Kimco Realty(NYSE: KIM) or triple-net lease operators like Realty Income. Discretionary spending generally includes things like luxury apparel and recreational goods, while non-discretionary goods are things like food and toiletries.

Since Tanger's business model is to undercut the department store, outlet malls tend to be far away from department stores. This often means that shoppers have to travel to reach these outlets, which are more removed from urban areas. This can create a disincentive for shoppers to venture out that far; the cost of extra travel means they might end up spending more overall. The outlets are often relatively close to interstates and visible from the highway.

Rising interest rates won't be a problem for Tanger

Rising interest rates have been the knock on the REIT sector all year. That said, rising rates don't appear to be a major problem for Tanger, as almost all of its long-term debt is fixed-rate. The company has no major debt maturities until 2026. Over half of its leases are expiring over the next three years, but rent spreads are still robust at 5.7%. Occupancy is improving as well, but is still below pre-pandemic levels. Retail construction, in general, has been low for years, so the sector is benefiting from having a limited new supply of space. This helps REITs like Tanger maintain pricing power.

The company raised guidance and its dividend

Tanger is guiding for 2022 funds from operations (FFO) to come in between $1.77 and $1.82 per share. REITs generally use funds from operations to describe earnings instead of net income under generally accepted accounting principles (GAAP). This is because real estate investors have a lot of depreciation and amortization to factor in, which depresses net income. Since depreciation and amortization aren't a cash cost (it is an accounting and tax issue, not something you would write a check for), net income tends to understate the cash-flow-generating capacity of the company. At current levels, Tanger is trading at 10.3 times guided 2022 FFO per share. This is right about where Simon Property is trading and below Kimco. Tanger has outperformed the S&P 500 index as well as Simon and Kimco over the past year.

SKT Chart

SKT data by YCharts

Tanger also hiked its quarterly dividend by 10%. The annualized dividend is $0.88, which is well covered by the company's FFO per-share forecast. The company is well run, however, consumer discretionary stocks are going to be vulnerable if the economy weakens further. Investors who want to maintain exposure to consumer discretionary and also reap a decent dividend should take a look at Tanger.

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Brent Nyitray, CFA has no position in any of the stocks mentioned. The Motley Fool recommends Simon Property Group and Tanger Factory Outlet Centers. The Motley Fool has a disclosure policy.

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