Public Storage (PSA) Earnings Call Transcript & Summary

Hello, everybody. My name is Juan Sanabria from BMO Capital Markets. I'm very pleased to have Public Storage with us here today. We've got Joe Russell, the CEO; and Tom Boyle, Chief Financial Officer. I'll let Joe give an introduction to Public Storage, and then we'll jump into Q&A. But without further ado, Joe?

Great. Good afternoon. Thanks, Juan. Tom and I will go through some brief comments and then we'll go into a variety of topics and questions that you've got for us. For those of you who don't know Public Storage, we are the largest owner, operator and developer of self-storage in the United States. Today, we own approximately 2,600 properties in 39 states. We are approaching our 50th year in business and have grown our portfolio across all major metropolitan markets with commanding presence and scale. 2021 is shaping up to be a very robust year in terms of growth, particularly around acquisition activity and our development initiatives. With the addition of the recently announced ezStorage portfolio, our year-to-date 2021 acquisition activity, either closed or under contract, is approximately $2.5 billion. Of note, since 2019, we have acquired, developed and redeveloped approximately 22 million square feet and have expanded our portfolio by 13%, having invested approximately $4.3 billion. Our platform continues to produce strong results, even with the economic constraints tied to the pandemic. Tom will go over that in a second. And our current total market cap is nearly $60 billion. Recently, we shared our core strategic initiatives with investors and analysts at our inaugural Investor Day, which is available on our website. The highlights of that presentation centered on 3 core areas. First, leveraging our leadership position through the Public Storage brand, which touches our properties, our people, our balance sheet. And we outlined a $600 million in-progress commitment that we're making to our Property of Tomorrow enhancement program across our portfolio. Second, we're embedding innovation in everything we do. That ties to customer experience, marketing, revenue management and optimization, data analytics and the transformation of our operating model. And third, it included the acceleration of organic and external growth. This ties to our revenue growth and expense control initiatives, our growth of our third-party management platform, the growth of our storage insurance offering, along with the acquisition and development activity I just mentioned. So with that, I'm going to turn it over to Tom, and he'll give you a few more highlights on Public Storage.

Thanks, Joe. On the operations side, I'd highlight that demand for storage space is healthy today, driven by a combination of traditional factors like a strong housing market as well as benefits of more consumers spending time at home. That demand is meeting tight inventory levels across the country for storage space today. You can see that in our occupancy and rent update this morning. Pricing power accelerated into the quarter, as we disclosed today. We do expect significantly tougher comps in the coming months. I'd note those same trends that were producing strong same-store operating trends are also translating into good lease-up of our newly added properties that Joe mentioned. Now I'll shift gears to the balance sheet. We have the real estate industry's strongest balance sheet, and we're using it to fund our growth initiatives. Year-to-date, we've raised $2.5 billion in the unsecured bond market to support those initiatives. We've diversified our capital sources and lowered our cost to one of the industry's lowest while having a long-term profile afforded from our preferred stock. Lastly, before I turn it back to Juan, I'd like to point the audience to the long-term growth algorithm we provided at the Investor Day for our business. It's based on core organic growth supplemented by our operating initiatives that Joe highlighted, accelerating portfolio growth, and enhanced by our ancillary operations. Our outlook is for circa 8% FFO growth per year. With that, I'll turn it back to Juan.

Thanks, guys. So Joe and Tom, you kind of referenced the strong start to the year and some of the latest trends. So maybe if we could start with the latest update on occupancy and pricing trends through May, and if there's been any change in the move-in, move-out that has been -- was at least for a period of time affected by COVID.

Sure. I'll start with a couple of highlights, and Tom can give you more specifics relative to, again, what we announced even as we speak through the most recent month. But all things considered, the demand for storage continues to be quite strong, as I mentioned. Month by month, as the pandemic is now fully into a year-plus in duration, we've seen very strong demand for self-storage literally across all the markets in which we're operating. It includes traditional sources of demand and additional demand factors that tie to a work-from-home platform, whether in total or in a hybrid approach. More people needing to be located around a home environment, whether it's tied to school -- homeschooling and school pressures, different ways of family gatherings. And again, families living differently in this environment. It ties to the kind of migration we're seeing in different markets, both in and out. It ties to the population dynamics that are going on with markets that are both growing and shifting. But overall, the demand for self-storage has continued to be quite resilient. And it's giving us levels of historic, both metrics tied to occupancy revenue opportunities and enduring customer demand that we have not seen before. So Tom, why don't you give a little bit more color to that?

Yes. I would say that pricing power has increased as we moved really each quarter from last summer, as Joe highlighted. And we're looking at metrics that are at record levels for move-ins, both in the first quarter and as we moved into the second quarter. Second quarter move-in rents are up circa 50% versus where they were last year, recognizing that last year was a depressed period where we were attracting new tenants in the middle of the onset of the pandemic. But if you compare those rents to 2019, they're still up healthily north of 20%. So strong pricing power as we moved into the historically busy season here in the second quarter. As I noted in the prepared remarks earlier, we are anticipating much tougher comps as we move through the year, but we're seeing really strong trends here as we get into June.

Great. And then maybe just a couple of follow-ups off of that. So just to confirm, you are seeing the typical seasonal strength, I know Memorial Day is a big weekend in the storage universe. And secondly, I guess, is just to follow up on the rate comment you said up, I think it was nearly 20% from 2019. Could you just help contextualize where the rates are today versus pre-supply levels maybe 2016, '17 and just give us a sense of how inflation may impact the forward momentum in pricing and your ability to continue to drive the prices higher.

Sure. So there's a number of questions there, but let me maybe go to the last one first around contextualizing the rates because I think that's important as you think about what happened to move-in rates through the last half of the decade as storage supply accelerated from 2015, 2016. But the rates that we're seeing today are north of those seen in 2015, 2016. And so we have made those up. And I would point to the strength really around the country to varying degrees, as you'd expect, but really strong trends in markets like Florida, Texas, Chicago, up and down the West Coast. So really broad-based strength. And one of the things we've been continuously watching is, are things different across different geographies that have maybe reacted differently to vaccination plans and the like. And we've seen broad-based strength, both from a pricing power standpoint as well as just broad-based customer demand. And then your first point was more seasonal. And I think we've been really encouraged by good top-of-funnel trends that have allowed us to continue to drive the business here. And so if you look at sales calls or web visits, they have seasonally lifted as you'd anticipate, and that's allowed us to reduce things like promotional discounts and marketing spend this time of year given the demand strength and the tight inventories I spoke to.

Great. And just to confirm, so no -- like, the New Yorks and San Franciscos of the world, as people return back to the office in some capacity, there hasn't been any diminution in demand? Everything is continuing to be very robust because of all the various macro drivers out there?

Things continue to be quite strong in those markets. I'm looking at San Francisco and I'm seeing occupancies north of 97% today. So really strong trends across those different types of markets.

Great. And then just on the capital allocation front, obviously, a big focus of the Investor Day. How would you peg the different opportunities? You have acquisition development, which you're ramping up, redevelopment and I guess just CapEx in the existing properties, which you touched on with the Property of Tomorrow initiative. If we could start there.

Yes. Juan, those are all both strong and powerful drivers to the business. So first of all, as you know, we have the only development platform in the public arena and by far the largest development team in the self-storage industry. Development continues to be a very pronounced value creation opportunity as we invest in the properties through primarily ground-up development and/or redevelopment. We've got a national-based team that is continuing to look for very good land sites. And we're very pleased by the fact that there's been a tapering down of development deliveries that peaked in 2019 nationally that were reduced by about 10% to 15% in 2020. And we expect in 2021, another reduction of that level of completions by another 10% to 15%. So it's given us another opportunity to go in and find good land sites with less competition in many markets. So the team continues to see very good and growing opportunities around that. And as I mentioned, it continues to be our most pronounced capital allocation opportunity. We're looking at stabilized returns in levels of, say, 8% on a cash-on-cash yield or higher. In today's environment, we're even seeing more powerful lease-up and stabilization opportunities around those assets by virtue of the demand factors that are out there, and we're continuing to see good opportunities. It's also tying, to some degree, to our acquisition opportunities where, as I mentioned, we've had a very robust year to go out and deploy capital. That, too, to some degree, is tied to the amount of national deliveries that have taken place over the past 5 years or so where there's been hundreds of properties per year delivered to many markets by owners that weren't intending to own those assets for long periods of time. It's given us a good opportunity to go out and acquire what we would call Gen 5 or more modern facilities. We're very pleased by the quality and the location of many of these assets. And frankly, we've been able to buy many of them that are not fully stabilized at what we feel are good value levels on a per square foot basis. And so with that, if you look at the acquisition activity that we've done this year and frankly, into 2020 as well, the average occupancy of the now approximately $3.3 billion that we've deployed in acquisitions in 2020, 2021, average occupancy hovers around 50% to 55%. So another different angle that we have compared to most investors, we're more than comfortable taking up that lease-up risk. As Tom mentioned, the balance sheet is well primed for us to go out and continue to be a very efficient acquirer. And then in certain cases, 2 of which tied to not only the ez portfolio that I mentioned, but also the Beyond portfolio, which was a $550 million acquisition in the fourth quarter. Those 2 larger portfolios also came with development opportunities that we uniquely could deploy in very quick order. So in the case of the Beyond portfolio, there were several land sites that we were able to acquire that we have now put into production very quickly. And in terms of ezStorage, the prior owners had intentionally preset entitlements to expand 8 separate facilities and they had 1 facility that was about ready to go into ground-up development. So all 9 of those situations we are executing on as we speak. It's another very unique and strong capability that we have from an enterprise and capital allocation standpoint, very differently than our competitors, and we're very pleased by the opportunity to expand and drive value creation through those initiatives as well. As we speak, the acquisition environment continues to be quite strong. And again, as we go through the remainder of 2021, we hope to find and see some continued opportunities, particularly around some of the initiatives I just mentioned that tie very uniquely to our core capabilities.

Great. So it sounds like the execution on the ez and deluxe portfolio has gone well post the close. Question just on the technology front. During the Investor Day, you talked about the opportunity to reduce payroll cost pretty significantly over the next several years. Just curious, what has to happen, I guess, for you to hit that? Is it a combination of the continued adoption of the e-rental platform? Do you need the keyless locks throughout the whole platform? Or could you give us a little bit more flavor as to the nuts and bolts to get from here to there from a technology perspective?

Sure. Tom, do you want to take that?

Sure. If you look at the pieces and the foundational elements that we talked through at Investor Day, many of them are in place in order to execute against that margin expansion opportunity. So -- and we spoke about Web Champ 2 and that really being a foundation to the technology platform, the e-rental that you highlighted, Juan, that really is customers selecting that they would rather complete their rental agreement with us on their phone or on their desktop computer before they come down. And that really reduces our property manager's time dedicated to rental agreements, and that's one of the most high-value tasks that they execute on a day-to-day basis. So as we've been looking through ways to both centralize, specialize different operating roles and utilize the technology, I think we have many of them in place, but certainly, more work to do over the next several years to achieve that. Ultimately, we'll be building upon the industry's highest operating margins to date, and we'll continue to look to improve those over time. I don't know, Joe, if you'd want to add anything to that.

Yes, I'll also add, Juan, that this is definitely something I would characterize as a win-win because our customers, frankly, are guiding us to these types of alternatives. So prior to the pandemic, we have been in test mode on our e-rental platform, and that was primarily tied to a more efficient and seamless transaction from a customer standpoint, where they could self-select and direct the time and the process by which they selected a space online without the need of direct interaction with a property manager, which, historically for the entire industry, has always been 100% dedicated to an interaction with a property manager. So while we were going through test mode, the pandemic surfaced, and we found a new nuance of this channel, which was tied to a contactless transaction. But there's no question our platform was well poised to accelerate and actually serve customers in a way that not only because of the pandemic, but we think it's going to be very enduring post-pandemic but it creates a far different and more efficient channel for what customers -- many customers want, which is to self-direct, as I mentioned. You can do a virtual or an online transaction approximately 5 or 6 minutes. And then for the customers who still want a more traditional leasing and movement experience, that's certainly available as well. But it's going to give our customers, again, a far different opportunity. And as we speak, 50% of our movement activity is now tied to this channel. To put that in context, that's about 50,000 customers a month that are using this channel. And we continue to optimize it. We're definitely tracking anything that we continue to do from a customer service level, but it's really working well. And it points to the level of technological innovation that we can continue to look for in the way that we run our own platform here at Public Storage.

And so there's no -- with the Web Champ 2.0 and the e-rental platform, is there any loss of the ability without having that interaction with the manager to upsell them on a better space or tenant reinsurance or any of the ancillary stuff that has been so profitable for PSA over time?

Yes. Well, I think that that's really covered in a number of factors within that platform. So the other piece that I'd highlight is the website that we developed on the foundation of Web Champ 2 in advance of the e-rental rollout that Joe highlighted. And part of that was really a focus around an easy-to-use, quick, mobile-first website design that was then extended with e-rental. And embedded in that process is the ability to do things like upsell units and also offer ancillary products through the e-rental process as well. In addition to that, It's not as though our staff is not spending a good bit of time with customers that have questions. So our property managers are there and speaking with customers over the phone. And many customers are still calling our call centers for the direction and guidance through their storage needs. So I would say a combination of call center, property managers and then new and upgraded website technology over the last several years is helping on all fronts.

Yes. And Juan, on that note, there's more to come as we're rolling out yet, again, another bolt-on initiative. Again, customer-driven but could be very vibrant in that regard, too, which is our PS app. So a different way for us to communicate directly with customers, self-directed. Tom, today, we've got, what, approximately 400,000 customers on the PS app, and it just rolled out earlier this year. So that's really through a process of self-adoption. And now we're going to continue to use and tweak that too for all kinds of potential opportunities, which we'll be excited to share with you going forward.

Great. And a question on the margin side. You guys have industry-leading margins. But just curious if there's any benefit you guys garner as a result of favorable tax treatment, given your significant exposure in California with some of the nuances within the state from a property tax perspective.

Yes. Well, as you're noting, Juan, each jurisdiction is different from a property tax standpoint. That's something we manage on a regular basis. But if you look at our operating margins, excluding property tax, so if you were to take that out and just look at margins without property taxes as EBITDA, you'd see our margins last year, full year 2020, were 86% pre-property tax, and those are still 400 to 700 basis points north of our competitors. So it speaks to the benefits of scale and operating, both technology infusement as well as efficiencies that our teams are focused on achieving day-in and day-out. So away from property taxes, even there's an opportunity there. And as we highlighted during Investor Day, we think there's opportunities to go further, which obviously benefit us with -- for organic growth, but also as we think about acquiring and developing facilities, the advantages of that.

Great. And then maybe we could touch a little bit on the balance sheet. Obviously, you guys have maybe increased your leverage targets a bit. Have you used some of that firepower? Could you just help contextualize the opportunity and maybe how much free cash flow the business throws off that can be used to finance the growth opportunities that lay ahead?

Yes, that's a great question, Juan. As Joe mentioned earlier, we've seen a lot of good opportunities, both within acquisitions of bigger portfolios and smaller portfolios over the last several years, which has allowed us to use the balance sheet to fund those initiatives. And that has resulted in our leverage on a net debt plus preferred basis to tick higher, but we feel very good about where it is. And frankly, are still in a position where we have a good bit of balance sheet strength to utilize to fund additional opportunities, as we highlighted at the Investor Day. So in any given year, for instance, we outlined an investment plan to -- that we could remain leverage-neutral and deploy about $900 million of acquisition and development capital. And that's because of the strength of the balance sheet as well as the retained cash flow that you highlighted, Juan, which we anticipate to be $300 million to $500 million over the next several years. But as we noted during the Investor Day, we are looking to increase that level of activity even further, and we have the balance sheet strength to do that. We outlined a scenario where we would deploy about $1.5 billion of both acquisitions and developments per year, and that would have only a modest impact to our leverage and something we're excited about doing to the extent that the opportunities remain there.

Great. And then just on the third-party management business. It's clearly been a big driver for the industry in terms of momentum on the acquisition side. You guys have gotten in the game and had some nice wins. But just curious on the competitive dynamics there, whether you think you're executing in stealing some customers from your competitors or how that process is playing out and how the ramp-up is going in that?

So the third-party management business is one that we entered a little over 2 years ago. Intentionally, we've been building it step by step knowing that the majority of the assets that are going to come into any platform, including ours, are typically going to be tied to development. A new developer is typically the most in need of some level of professional management coming into the self-storage sector. So our backlog, tied to development that's coming into third-party management platform, continues to grow. We're seeing very good traction there. Another part of the business that we're starting to see even additional traction tied to is owners that have multiple facilities. They typically may give you 1 or 2 to see what types of operating benefits that you'd see in one platform compared to another. And we're starting to see very good traction there. And some of which, to your point, ties to existing facilities as well. So that, too, is transitional, but we're seeing, again, a growing opportunity set tied to existing assets. The team is fully engaged, again, on a national basis. We've been adding properties literally in every market across the United States, and we continue to see good opportunities because of the size of our platform and the ability to put these assets directly into the leading operating brand across all the major metropolitan markets here in the United States. The other thing that's early, but again, I think it's a validation of what we're seeing that we're confident will continue to be a benefit is we're actually starting to acquire assets that are in the program as well. So we've done now 8 or 9 different transactions out of the existing property portfolio in third-party management. In fact, some of those owners are actually coming to us with dual motivations. One may be to go into third party and one may be at the same time to actually be an acquisition candidate. So it's a different lens and a different platform to us to continue to source growth, whether it's through just the platform itself and/or direct ownership. We're very confident, as we noted in the Investor Day, that our ability to grow the platform to about a 500-plus level of assets is in our sights. And we continue to feel very confident that that will play through as both the development assets come to completion and then we're finding new and different ways of adding existing properties to the platform as well.

Great. And maybe just the last question, as I think we're running low on time, I mean a big question for the investors is '22 growth, and I don't expect you to give us any guidance. But historically, the industry has kind of generated 3.5%, 4%-type same-store revenue growth, and I know there could be some differences in how people define those same-store pools. But any sense of -- or color you can give us on what you think the exit rate for 2021 will be or the evolution of the same-store growth for the balance of the year?

Well, as you highlighted, Juan, we're not going to give 2022 numbers at this point. But we did provide an operating update, which we're encouraged by, as we've continued to see the persistent customer demand through the first part of this year, and we think many of those demand trends are sustainable as we move forward. In addition to that, as we spoke to during the Investor Day, we have seen decreasing levels of new supply. So we think from a demand and supply standpoint, the industry is set up well over the next several years and are encouraged by what we're seeing today.

Perfect. I think on that note, that takes care of our questions, and I believe the time is just about up. So thank you, gentlemen, for your time.

Great. Thank you, Juan.

Thank you.

Thanks, everybody. Appreciate it.