Smartstop Self Storage REIT, Inc. quarterly report, Q2 FY2016

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Business context and reporting period

Strategic Storage Trust II, Inc. (the registrant named in this filing) is a non-traded self-storage REIT. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2016. The filing describes a rapidly expanding portfolio: 63 properties in the U.S. and Canada, with 40,050 rentable units, 4.56 million square feet and 92% physical occupancy at quarter-end. The filing states results are not necessarily indicative of full-year performance and that acquisition activity limits comparability with 2015.

Financial results and condition

  • Revenue: Q2 revenue was $9.80 million, up from $4.49 million in Q2 2015; six-month revenue was $16.03 million, versus $7.49 million. Growth primarily reflected acquired properties. Q2 self-storage rental revenue was $9.72 million.
  • Profitability: Q2 operating loss was $8.91 million and net loss was $10.73 million, compared with losses of $1.12 million and $1.99 million, respectively, in Q2 2015. Six-month net loss was $15.24 million, versus $5.57 million. Acquisition expenses were a major factor: $7.84 million in Q2 and $10.69 million for the half-year. Net loss per share for Q2 was $0.27 for both Class A and Class T.
  • Property performance: Same-store Q2 revenue increased 11.0% to $4.59 million; same-store operating income rose 7.8% to $2.61 million. Average occupancy for those properties increased to 90.7% from 87.6%, and annualized rent per occupied square foot rose to $13.29 from $12.40. Same-store results cover 26 properties; portfolio growth makes the overall year-over-year comparison less informative.
  • Cash flow: Six-month operating cash flow was negative $3.82 million, versus negative $1.97 million in 2015. Investing cash outflow was $426.01 million, mainly for acquisitions; financing cash inflow was $414.42 million, primarily from equity issuance and debt. Cash and cash equivalents were $12.57 million at June 30, down from $28.10 million at year-end.
  • Debt and liquidity: Secured debt was $290.13 million, versus $23.03 million at December 31, 2015. Debt included $247.92 million variable-rate and $42.61 million fixed-rate debt before debt premiums and issuance costs. Principal payments scheduled for 2016 totaled $135.27 million. The $105 million KeyBank Property Loan and $30 million unsecured subordinate loan were both due December 31, 2016. In July, the company obtained a $95 million, ten-year CMBS loan, with proceeds primarily used to pay down its revolving facility.
  • Margins and supplemental measures: GAAP operating and net margins were negative. The company reported non-GAAP MFFO of $2.30 million for Q2 and $3.89 million for the half-year, compared with negative MFFO in 2015; MFFO excludes acquisition-related and other specified items and is not cash flow or a substitute for GAAP results.

Material changes, outlook and risks

  • The company acquired properties at substantial scale: real estate facilities increased from $156.2 million at year-end to $598.5 million at June 30. It closed on the first phase of a 27-property portfolio for approximately $275 million and expected the remaining acquisitions to close in Q3, subject to completion and financing. A separate Las Vegas acquisition was also pending at quarter-end.
  • Management expected revenue and property expenses, depreciation and amortization, and interest costs to rise with further acquisitions and borrowing. No specific full-year financial guidance was provided.
  • Distributions were not funded by operating cash flow in the first half: the filing attributes all $8.67 million of distributions to primary offering proceeds and DRIP proceeds. The company says distributions may continue to be funded from offering proceeds, debt or asset sales, reducing capital available for investment or adding financing costs. The board declared a Q3 daily distribution rate of $0.00163934426 per share.
  • Related-party exposure is material. The advisor incurred $8.26 million of acquisition expenses in the first half and receives acquisition and asset-management fees; property management is conducted through affiliates, including an Extra Space affiliate in the U.S. The filing reports $292,322 due to affiliates at June 30.
  • Interest-rate sensitivity is significant: management estimated a 100-basis-point increase in variable rates would reduce annual earnings and cash flows by approximately $2.5 million. The company had an interest-rate swap covering $180 million through December 31, 2016 and a Canadian-dollar forward hedge, but Canadian operations still expose cash flows to currency movements.
  • Other stated risks include acquisition execution and possible forfeiture of earnest money, restrictive debt covenants and refinancing needs, dependence on continued equity fundraising, competition and occupancy/rent performance, and uncertainty in the annual estimated share value. The $10.09 estimated value per share was based on asset and liability estimates as of December 31, 2015 and may not equal realizable sale value. The filing says operations may not be profitable in 2016.
  • The company reported no material legal proceedings, no defaults upon senior securities, and effective disclosure controls. It cautioned that forward-looking statements are subject to risks and are not guaranteed.

Most important facts for investors to verify

  1. Whether the remaining 27-property portfolio and other announced acquisitions closed, at what cost, and with what financing and operating performance.
  2. How the company refinanced or repaid the $135.27 million of scheduled 2016 principal, including the post-quarter $95 million CMBS loan and any remaining near-term maturities.
  3. Whether distributions are supported by property cash flow over time, given negative operating cash flow and the disclosed reliance on offering and DRIP proceeds.
  4. Same-store occupancy, achieved rents, operating costs and property-level performance as the portfolio matures; distinguish same-store results from acquisition-driven growth.
  5. Acquisition, offering and related-party fees, their effect on investor returns, and any changes in related-party balances or arrangements.
  6. Compliance with debt covenants, variable-rate exposure and hedging effectiveness, including Canadian-dollar exposure.
  7. The assumptions and limitations behind the estimated $10.09 per-share value and the next annual valuation.