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Morningstar | Realty Income's Top Line in Line for 4Q, but Bottom Line Impacted by Disposition

Realty Income's fourth-quarter results were generally in line, though a disposition at a high cap rate caused a slight miss to the bottom line. There was nothing in the quarter that leads us to believe that we will materially change our $60 fair value estimate or our no-moat rating. Physical occupancy ticked down 20 basis points to 98.6%, though it is still up 20 basis point year over year. Contractual rental rates increased 1.1%, basically in line with what the company has achieved over the past several years, though releasing spreads for the quarter fell 6.3%. Only a small fraction of the portfolio rolls each quarter, so year-over-year rental income growth was up 0.8% in the fourth quarter, in line with our assumption. While the company continued its pace of acquisitions, buying $321 million at an average 6.5% cap rate to bring the 2018 total to just under management's target for the year, it also disposed of $56 million at an average 14.6% cap rate. The high cap rate on the disposed assets slightly cut into rental revenue, which caused Realty Income to miss our adjusted funds from operations estimate by 2 cents with a $0.79 figure reported for the quarter.

Management's 2019 guidance came in a little below our expectation. Our $3.33 estimate is slightly above the high end of management's guidance range of $3.25 to $3.31. Part of this is explained by the spillover impact of the high-cap rate disposition from the fourth quarter. However, management is also guiding to $1.5 billion to $2.0 billion in acquisitions this year, above our $1.4 billion estimate. We suspect that this means one of two things--either management believes that the bulk of the acquisitions will be back-half weighted, which they have been the past few years, or acquisition cap rates are trending lower. While our 6.25% acquisition cap rate is on the low end of what Realty Income has executed recently, any reduction to cap rates would reduce the impact of the company's largest driver of growth.