DigitalBridge: Swap The Paltry Commons Dividend For 9.2% Yielding Preferreds (NYSE:DBRG)

After a hiatus of over two years, DigitalBridge (NYSE:DBRG) finally reinstated its common share dividends. Whilst the declared quarterly per share cash dividend payout of $0.01 is still materially below its pre-suspension figure of $0.44, DigitalBridge is in all essence a different company from when it suspended the dividend. The company, previously named Colony Capital, is no longer a REIT so is not obliged to pay 90% of its taxable earnings to shareholders. The meager dividend, which forms a roughly annualized yield of 0.35%, reflects a business that has dramatically changed since the May 2020 suspension. It has pivoted to focus on five key digital infrastructure verticals, completed a mammoth $11 billion take-private of Switch, and executed a one-for-four reverse stock split.

Where Colony Capital held retail, hotel, and office real estate, DigitalBridge is investing across cell towers, data centers, edge infrastructure, small cells, and fiber networks. Fundamentally, these verticals are underlined by decades-long secular growth thematics with cloud migration alone set to see a global capex of $1.3 trillion from 2022 to 2028 as more corporations move from on-premise software to cloud computing. The company is executing via its managed funds which charge a management fee to its institutional investor base. This is essentially a private equity-style business segment where revenue is derived from fee-earning assets under management (“FEAUM”). An increase in FEAUM would be the principal driver of growth in this segment. The digital operating segment sees DigitalBridge take a direct equity interest in digital infrastructure companies. Overall, the company wants to position itself to ride the digitization of the world and has grown to have a footprint on all continents.

The Coverage Of The Preferreds

I came to know of DigitalBridge when it took private Landmark Infrastructure, a previous holding of mine. Most of the old Colony Capital investors have likely all sold out of their position but income-oriented investors might want to consider DigitalBridge Group 7.15% Series I Cumulative Redeemable Preferred Stock (NYSE:DBRG.PI).

A few things to note. These are a holdout from Colony Capital and initially started trading in 2017 when $300 million of the Series I preferreds were sold. They are also trading past their June 2022 call date. This means the company can choose to partially or fully redeem the preferreds at any time. Hence, as these currently trade at $19.53, a $5.47 difference from their $25 redemption value, holders of the preferreds could see a 28% capital uplift in a redemption event. This would be layered on top of a $1.79 annual coupon which works to be a 9.2% yield.

This would be around 26x the yield available on the common shares and come with a cumulative clause that obliges DigitalBridge to pay any unpaid dividends in the event of a suspension. This is highly unlikely though as even when the dividend to common shareholders was suspended in 2020, holders of the preferreds were still paid their coupon albeit with an initial delay to the declaration. The company partially redeemed 2.56 million shares of its Series H (DBRG.PH) preferreds in 2021, around 22.3% of the total and has laid out a roadmap to reduce its cost of capital to drive corporate cash flows. Apart from slightly different call dates, Series I offers essentially the same return profile as Series H and Series J (DBRG.PJ).

Private Equity With A Digital Infrastructure Focus

Clear statements from management that they intend to clear up their capital structure will embed a level of resiliency in the preferreds and prevent them from trading too far below their $25 redemption value. However, the extent to which this is possible in the near term will likely be hampered by the rising rate environment which has rendered debt more expensive and exerted some pressure on their earnings.

DigitalBridge last reported earnings for its fiscal 2022 third quarter. This saw total revenue come in at $296.62 million, an increase of 17.6% from the year-ago period and a beat of $2.42 million on consensus estimates. This was primarily driven by property operating income rising to $244.3 million, up from $194.8 million in the year-ago quarter with growth of total revenue partially offset by a decline in fee income from $50.2 million to $41.3 million.

The company leans quite heavily on leverage to drive its operations. Net debt stood at $5.3 billion as of the end of the quarter which drove a loan-to-value ratio of 41%, down from 43% in the prior second quarter. With 75% of this fixed, the company was relatively insulated from rising rates but interest expenses still jumped to $53 million, a 33% year-over-year increase with property operating expenses climbing 32% to $106 million. This drove a net loss attributable to common stockholders of $63.27 million. Critically, this loss-making operating position has been the key driver in the underperformance of the commons, down 64%, over the last 12 months. They might make a good recovery play especially when Switch starts being reflected in earnings, but the preferreds make a far better income play.