Smartstop Self Storage REIT, Inc. quarterly report, Q1 FY2017

Business context and reporting period

Strategic Storage Trust II, Inc. (the filing issuer) is a self-storage REIT; SmartStop appears in the filing as sponsor/brand history. This unaudited Form 10-Q covers the three months ended March 31, 2017, compared with Q1 2016. The company owned 83 facilities with 6.03 million rentable square feet and 91% physical occupancy at quarter-end. Results are not directly comparable year over year because the portfolio expanded substantially.

Financial performance and position

• Revenue grew 184%, primarily reflecting the larger portfolio, not solely same-property growth. Same-store revenue rose 15.6%; average physical occupancy increased to 92.3% from 84.2%, and annualized rent per occupied square foot increased to $13.29 from $12.60.
• Same-store property operating expenses fell 3.8%. Company-wide operating expenses were $18.26 million, including $8.49 million of depreciation and amortization.
• Investing activities used $49.08 million, including $49.43 million for real estate purchases. Financing activities provided $43.37 million; cash declined by $3.41 million during the quarter.
• Debt included approximately $210 million fixed-rate and $180 million variable-rate borrowings. Management estimated that a 100-basis-point increase in variable rates would reduce annual earnings and cash flow by about $2 million.
• Q1 distributions totaled $7.88 million, including reinvested distributions. The filing attributes 31% to operating cash flow and 69% to offering and DRP proceeds. FFO, a non-GAAP measure, was $3.21 million; MFFO was $3.68 million.

Material changes and notable transactions

• The portfolio increased from 40 facilities at March 31, 2016 to 83 at March 31, 2017. Six properties were acquired in Q1 2017 for reported total consideration of approximately $94.5 million; the purchase-price allocations were preliminary.
• The Toronto Merger added five Greater Toronto Area properties and associated debt; the transaction involved sponsor affiliates and was approved by a committee of independent directors.
• The primary share offering ended January 9, 2017. The company continued its distribution reinvestment offering. The board approved an estimated value of $10.22 per Class A and Class T share on April 13, based on a December 31, 2016 valuation.
• Debt rose from year-end as the company financed acquisitions and refinanced borrowings. After quarter-end, on April 11, the company entered a $52 million, 10-year Florida loan at 4.65%, primarily refinancing a loan with approximately $47.1 million outstanding.

Outlook, risks, contingencies and unusual items

• No specific earnings or revenue guidance is provided. Management said it expects interest expense to rise with future debt levels and noted that operations may not be profitable in 2017.
• Management expects short-term needs to be met through offering proceeds, borrowing capacity, property operating cash flow and, if needed, advances from its Advisor. Long-term funding may depend on financing, equity issuance and operating cash flow.
• The filing warns that distributions may be funded from sources other than operations; doing so can reduce investment capital or require borrowing. At March 31, cumulative distributions of approximately $37.9 million exceeded cumulative negative FFO of approximately $9.3 million.
• Debt maturities and refinancing are important risks: the filing listed approximately $55.8 million of principal due in 2017 and $125.0 million in 2018, before the subsequent April refinancing. The company also reported approximately $52.9 million of recourse guarantees and restrictive debt covenants.
• Other risks include competition, lease-up of newer properties, Canadian-dollar exposure, interest-rate movements, REIT qualification, and the uncertainty of estimated share value. The share-redemption program is limited by available DRP proceeds and other restrictions. No material legal proceedings were reported; management said disclosure controls were effective.

Key facts for investors to verify

1. Confirm the issuer: this filing is for Strategic Storage Trust II, Inc.; verify its relationship, if any, to the company named in the request.
2. Review acquisition-adjusted performance and same-store occupancy, rent and expense trends; most year-over-year revenue growth reflects portfolio expansion.
3. Check the debt maturity schedule, covenant compliance, variable-rate exposure and details of the April 2017 refinancing.
4. Assess distribution coverage and funding sources, including the use of offering and reinvestment proceeds rather than operating cash flow.
5. Review the assumptions and limitations underlying the $10.22 estimated share value and the liquidity limits of the redemption program.