Medical Properties Trust: The Debt Is Heavy, But The Profits Are Sound

Medical Properties Trust (NYSE:MPW) has produced some seriously nice growth in recent quarters. Not only have revenues jumped around 200% since 2013, but net income also has jumped a whopping 227% in the same time frame. So why is the stock trading at less than 20x last year's earnings? The answer is debt.

Medical Properties Trust invests in real estate suitable for medical uses. It's a cool concept, because let's face it, healthcare has a lot of money. Unfortunately the company has initiated a ton of financing in order to do it. The investment becomes a question of how much you're willing to stomach in regards to long-term liabilities. On the one hand, it offers exposure to real estate in the most insulated market in the world, healthcare. It offers a great dividend, and historical trends of increasing revenue. On the other hand, its interest expenses could rise with rates, and the share counts are increasing quickly.

The growth story

The growth has been phenomenal. On an annual basis, revenues are on pace to hit $1 billion within the next few years. The aforementioned 227% increase in net income over a five-year period brought MPW's fiscal 2017 net income to $288.38 million. 2018 looks to keep the positive momentum alive with a first-quarter worth discussion.

Q1'18 results seem to indicate that MPW can keep the growth story going. $205.5 million in sales are a year-over-year increase of 31.4%. Those revenues translated into a 25% improvement in operating income of $92.22 million. Of course, none of this matters if it doesn't relate to shareholder value. Fortunately it did. Net income of $90.04 million marks an increase of roughly 34%. It's pretty hard to find that kind of percentage rate growth story these days. Unless of course you're willing to pay half your wallet to get it at a huge premium.

The improved earnings per share are a welcomed sight. Last year the total number of shares outstanding increased significantly in conjunction with sales growth. Diluted shares outstanding increased from 152 million in 2013 to 350 million in 2017. That's pretty substantial. Until recently, the financial gains have outpaced the share increases, allowing meaningful earnings for shareholders. Earnings per share for 2016 marked the high point at $0.86 a share. Fiscal 2017 saw a downtrend to $0.82 per diluted share in spite of the significant growth in net income. The earnings increase in Q1 helped to put things back on the right path, though it's still something to watch out for.

The area in which the company invests is very promising

MPW invests almost exclusively in things like hospitals and acute care facilities that can be put into long-term leases. I personally love this direction. Medical care is inherently essential to our society. It's not going away, and illness does not diminish in recessions, meaning there will always be demand. The strategy plays well into the "moats" concept that Warren Buffett talks about. It's a business model with some protection.

The progressive buildup of healthcare inclined real estate could offer excellent long-term reliability in terms of returns.

The catch...

The company is racking up a lot of debt to finance its expansion. Between 2013 and 2017, long-term debt jumped from $1.42 billion to nearly $5 billion. That's a drastic increase in liabilities. Fortunately, the financial earnings created through expansion have been good enough that the interest payments on this debt haven't affected profitability. Moving forward, the success of this real estate trust will be dependent on debt levels not getting out of hand.

Right now, the equity situation of MPW has improved so much that you can't really fault the influx of long-term debt. Assets are outpacing liabilities, and the company's total equity has skyrocketed from $1.34 billion in 2013 to $3.85 billion at the end of the first quarter.

My conclusive feelings (as if anyone cares)

I like Medical Properties Trust a lot. The company is investing in a niche segment that is clearly producing returns. The net income is great, and the majority of its cash flow is coming from the operations side of things.

If I had to put up one concern for the near term, it's the cash position. With a little over $138 million in cash on hand (as opposed to over $400 million a year ago), MPW probably won't be making too many big acquisitions without needing to raise capital. It'll either take on more debt, or issue stock. It seems as a whole that the company favors a strategy of raising cash from both avenues. Considering the progressive rise in share count, I think that it's safer to not expect MPW to run too far past $13-14 a share for the time being.

The flip side on that prognosis is the stock is paying out a 7.5% dividend. How many times do you find that kind of yield in an expanding company? If you decide to collect on the cheap valuation vs. yield, just be sure to pay attention to the debt position compared to how the trust drives earnings per share/assets.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.