Extra Space Storage Inc. quarterly report, Q3 FY2019

Extra Space Storage Inc. — Q3 2019 Form 10-Q Summary

Business context and reporting period

Extra Space Storage Inc. is a self-managed REIT that owns, operates, acquires, develops, redevelops and manages self-storage properties, with a complementary tenant-reinsurance business. The filing covers the three and nine months ended September 30, 2019; financial statements are unaudited and prepared under U.S. GAAP.

At September 30, 2019, the company owned or held interests in 1,167 stores and managed 630 additional stores, for 1,797 stores across 40 states, Washington, D.C. and Puerto Rico.
The portfolio included approximately 1,020,000 tenants and 137.6 million net rentable square feet.
The company operated through self-storage operations and tenant reinsurance segments.

Key financial metrics

Metric	Q3 2019	Q3 2018	Nine months 2019	Nine months 2018
Total revenues	$337.5 million	$307.0 million	$972.7 million	$889.3 million
Net income	$116.0 million	$139.7 million	$330.8 million	$337.8 million
Net income attributable to common stockholders	$108.1 million	$130.4 million	$307.7 million	$313.8 million
Basic EPS	$0.84	$1.03	$2.40	$2.49
Diluted EPS	$0.83	$1.02	$2.37	$2.48
Funds from operations attributable to common stockholders and unit holders	$170.6 million	$160.6 million	$492.9 million	$460.7 million
Net cash provided by operating activities	Not separately provided	Not separately provided	$544.5 million	$529.0 million

Q3 total revenue increased 10.0%; nine-month revenue increased 9.4%. Property rental revenue increased 9.1% in Q3 and 8.9% year to date.
Q3 net income attributable to common stockholders declined 17.1%, while nine-month net income attributable to common stockholders declined 2.0%. The prior-year periods benefited from a $30.8 million real-estate sale gain, compared with no Q3 2019 gain and a $1.2 million gain year to date.
FFO increased 6.2% in Q3 and 7.0% for the nine-month period, reflecting growth in operating earnings after excluding real-estate depreciation and transaction gains.
Q3 same-store rental revenue rose 3.3% and same-store NOI rose 2.1%; nine-month same-store rental revenue rose 3.8% and NOI rose 3.6%. Same-store quarter-end occupancy was 93.8%, unchanged from the prior-year period.
Average annual rent per square foot for existing customers at stabilized stores increased to $16.42 from $15.95; new-lease rent increased to $18.34 from $18.21.
Cash dividends paid per common share were $0.90 in Q3 and $2.66 for the first nine months, compared with $0.86 and $2.50, respectively, in the prior-year periods.

Cash flow, debt and liquidity

Nine-month operating cash flow was $544.5 million, up from $529.0 million.
Investing cash outflow was $356.4 million, including $287.1 million for acquisitions, $34.4 million for development and redevelopment, and $33.7 million invested in unconsolidated real-estate ventures.
Financing cash outflow was $194.1 million, including $341.5 million of common dividends and $25.7 million of distributions to noncontrolling interests.
Cash, cash equivalents and restricted cash totaled $66.7 million at September 30, 2019, including $62.3 million of unrestricted cash.
Face value of debt was $4.845 billion, with a 3.4% weighted-average interest rate and debt-to-total-enterprise-value of 23.0%. Fixed-rate debt and swapped debt represented 77.2% of total debt.
Balance-sheet debt included $4.085 billion of notes payable, $567.7 million of exchangeable senior notes and $159.0 million drawn on revolving lines of credit.
The company stated that it was in compliance with all financial covenants and expected operating cash flow, cash on hand, revolving credit availability and capital-market access to satisfy anticipated needs for the next 12 months.
Approximately $1.1 billion of debt was subject to variable interest rates, excluding debt covered by swaps. A 100-basis-point change in rates was estimated to affect annual earnings and cash flow by approximately $11.0 million.

Material changes versus the prior comparable period

Revenue growth was driven by acquisitions, newly leased properties, higher rental rates and expansion of the managed-store platform. Managed stores for third parties increased to 630 from 507.
Property operations expense increased 20.4% in Q3 and 13.1% year to date, outpacing property rental revenue growth, partly due to acquisitions, property taxes and marketing.
Interest expense increased 2.1% in Q3 and 8.8% year to date due primarily to higher average debt balances.
Equity in earnings of unconsolidated ventures declined 25.3% in Q3 and 20.6% year to date, partly because 12 stores were acquired from joint ventures in January 2019.
The company acquired 16 stores during the first nine months and entered into new net-lease arrangements covering 27 operating stores. It also contributed $56.8 million to joint ventures for store acquisitions.
The company adopted the new lease accounting standard, ASC 842, on January 1, 2019. At September 30, operating lease right-of-use assets were $269.3 million and operating lease liabilities were $279.0 million.
The company issued $198.9 million of common stock net of offering costs during the first nine months, including $100.1 million in Q3 under its $500 million at-the-market program. Approximately $298.6 million remained available under that program at quarter end.

Outlook, risks, contingencies and unusual items

Management expected positive operating cash flow for 2019 and believed liquidity was adequate for operating expenses, debt service, recurring capital expenditures, acquisitions, distributions and REIT-related dividends. The filing does not provide specific earnings or revenue guidance.
The business is seasonal, with a greater portion of revenue and profit generally realized from May through September and peak occupancy historically in late July.
Key risks include competition and pressure on rents or occupancy, adverse economic and real-estate conditions, interest-rate increases, capital-market disruption, acquisition and development execution, impairment and valuation risk, environmental and uninsured losses, regulatory and REIT-tax requirements, joint-venture decision-making and natural disasters or other extraordinary events.
Interest-rate swaps had a combined notional amount of $2.403 billion. The net liability position under certain counterparty agreements was approximately $45.0 million; a default could have required cash settlement of approximately $45.1 million.
The company was party to ordinary-course legal proceedings and claims whose outcomes could not be determined with certainty. Management stated that no material environmental liability was known.
At September 30, the company had agreements to acquire four stores for $41.8 million and five stores with joint-venture partners requiring a total investment of $31.4 million.
On October 29, 2019, after quarter end, the company invested $150.0 million in SmartStop Self Storage REIT convertible preferred stock and committed to purchase up to an additional $50.0 million over 12 months. The preferred shares carry a 6.25% dividend rate, subject to increase after five years.

Most important facts for investors to verify

Reconcile revenue growth and FFO growth with same-store NOI growth, particularly as property operating expenses increased faster than same-store revenue.
Assess leverage, revolving-credit usage, upcoming debt maturities and the potential cash or equity settlement of the $575 million exchangeable notes.
Evaluate exposure to variable interest rates, swap counterparties and covenant-linked default provisions.
Review acquisition, development, joint-venture and pending-store commitments, including the post-quarter-end SmartStop investment.
Monitor occupancy, rental-rate growth, tenant retention, discounts and bad debt as seasonal conditions change.
Consider the effect of common-stock issuance and noncontrolling interests on per-share results and future dilution.
Confirm that the company maintains REIT qualification and sufficient cash flow to fund dividends and required distributions.