Public Storage quarterly report, Q3 FY2018

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Public Storage — Form 10-Q Summary

Business context and period: Quarterly report for the three and nine months ended September 30, 2018. Public Storage is a REIT focused on self-storage, with ancillary merchandise and tenant-reinsurance businesses and equity-method investments in PS Business Parks (PSB) and Shurgard Europe. At quarter-end, it had interests in 2,418 U.S. self-storage facilities and a 49% interest in Shurgard Europe; its same-store pool comprised 2,046 facilities.

Key financial results

Amounts below are in U.S. dollars; financial statement amounts are converted from thousands to millions.

  • Third quarter: Revenue was $706.4 million, up 2.9% year over year; operating income was $358.9 million versus $360.1 million. Net income was $379.6 million, up from $358.3 million. Net income allocable to common shareholders was $322.7 million, or $1.85 diluted per share, versus $279.7 million, or $1.61.
  • First nine months: Revenue was $2.062 billion, up 3.3%; operating income was $1.030 billion versus $1.043 billion. Net income was $1.129 billion versus $1.058 billion. Common-shareholder income was $958.8 million, or $5.50 diluted per share, versus $837.5 million, or $4.81.
  • FFO and Core FFO: Diluted FFO per share was $2.66 for Q3, up 13.2%, and $7.68 for nine months, up 9.7%. Core FFO per share was $2.70 for Q3, up 3.4%, and $7.75 for nine months, up 3.6%. These are non-GAAP measures defined by the company.
  • Same-store operations: Q3 same-store revenue increased 1.2%, while costs rose 2.8%; NOI increased 0.6%. Nine-month same-store revenue increased 1.6%, costs 2.9%, and NOI 1.1%. Q3 weighted-average occupancy was 94.0%, down from 94.6%; realized rent per occupied square foot rose 1.9%. Same-store gross margin before depreciation was 73.5%, versus 73.9%.
  • Cash flow: For the first nine months, operating cash flow was $1.578 billion versus $1.503 billion. Investing activities used $361.6 million and financing activities used $1.218 billion, including $1.209 billion of shareholder distributions. Cash and equivalents were $432.5 million at September 30, essentially unchanged from $433.4 million at year-end 2017.
  • Debt and liquidity: Notes payable were $1.418 billion book value ($1.425 billion principal), compared with $1.431 billion book value at year-end. Debt was mainly fixed-rate unsecured notes; the weighted-average effective rate was 2.6%. The $500 million revolving facility had no borrowings and $483.9 million available after letters of credit. The company reported compliance with debt covenants. Preferred shares had a $4.025 billion liquidation preference.
  • Investment and development: The company spent $107.8 million acquiring 16 facilities and opened $278.1 million of development and redevelopment projects during the nine months. Its remaining development pipeline was estimated at $596.4 million, including $342.7 million of expected remaining spend.

Material changes and drivers

  • Same-store rental growth continued but slowed: management reported softness in demand across substantially all major markets, reduced move-in volumes and weaker pricing power for new tenants. New supply was a factor in several markets, including Atlanta, Austin, Chicago, Dallas, Denver, Houston, New York and Portland.
  • Same-store occupancy and NOI growth weakened, while property taxes increased 5.7% in Q3 and 5.3% for the nine months, primarily due to higher assessed values. Management attributed the increase in same-store operating costs mainly to property taxes.
  • Non-same-store NOI increased 14.4% in Q3 and 14.7% for nine months, substantially reflecting facilities acquired or developed since January 2016. Higher depreciation on newer facilities partly offset NOI gains.
  • Reported common-shareholder earnings benefited from comparison items: 2017 included preferred-redemption allocations and hurricane-related casualty and tenant-reinsurance losses; 2018 included favorable foreign-exchange movements. Nine-month results also benefited from the company’s share of PSB real-estate sale gains. CEO/CFO retirement-related compensation acceleration partly offset these drivers.

Outlook, risks and unusual items

  • Management expected moderate same-store revenue growth for the remainder of 2018, driven principally by rent increases to existing tenants. It said current demand, move-in and occupancy trends were not necessarily predictive and that discounting or lower initial rents to stimulate demand could weigh on near-term revenue.
  • Management expected same-store property-tax expense growth of approximately 5.7% for the remainder of 2018, and anticipated continued development-related earnings dilution as new or redeveloped facilities may take three to four years to stabilize. It also expected increased share-based compensation expense through year-end due to accelerated vesting-related amortization for the retiring CEO and CFO.
  • The company estimated approximately $1.2 billion of capital resources over the next year against planned needs of about $433.4 million, including development spending, contracted acquisitions and debt repayments. It estimated retained operating cash flow of $200–$250 million over the next 12 months. These are management estimates, and needs could rise with additional projects or acquisitions.
  • Subsequent to quarter-end, Shurgard Europe completed an IPO, reducing Public Storage’s ownership from 49% to 36.6% (35.2% if the additional-share option is exercised). Public Storage did not sell shares and expected to record a gain in Q4 as if it had disposed of a proportionate investment interest. It also sold its West London property to Shurgard Europe for $42.1 million in October and expected a Q4 gain.
  • Key risks identified include local economic weakness and competition from new facilities, development and permitting delays, foreign-currency exposure, joint-venture performance, REIT qualification and regulatory risks, and potential catastrophe losses. Management said material loss from current legal proceedings was remote; it also disclosed that insurance limits could be exceeded in the event of multiple catastrophic events.

Most important facts for investors to verify

  • Whether same-store revenue, occupancy and new-tenant pricing trends stabilize, especially in markets affected by new supply.
  • Whether property-tax and other cost increases continue to outpace same-store revenue growth, and how this affects NOI margins.
  • How development and redevelopment spending, lease-up timing and acquisition costs compare with management’s estimates and return expectations.
  • The post-IPO Shurgard ownership percentage, Q4 gain accounting, subsequent earnings and distributions, and the effect of the West London sale.
  • How much reported earnings growth reflects recurring operations versus foreign exchange, PSB gains, prior-year hurricane costs, preferred-redemption comparisons and executive compensation acceleration.
  • Whether available liquidity, expected retained cash flow and debt maturities remain consistent with planned capital spending and shareholder distributions.